EXHIBIT 99
PHILIP MORRIS COMPANIES INC.
and SUBSIDIARIES
Consolidated Financial Statements as of
December 31, 2000 and 1999 and for Each of the
Three Years in the Period Ended December 31, 2000
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Philip Morris Companies Inc.:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of earnings, stockholders' equity and cash flows present
fairly, in all material respects, the consolidated financial position of Philip
Morris Companies Inc. and its subsidiaries (the "Company") at December 31, 2000
and 1999, and the consolidated results of their operations and their cash flows
for each of the three years in the period ended December 31, 2000 in conformity
with accounting principles generally accepted in the United States of America.
These financial statements are the responsibility of the Company's management;
our responsibility is to express an opinion on these financial statements based
on our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America, which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PRICEWATERHOUSECOOPERS LLP
New York, New York
January 29, 2001
PHILIP MORRIS COMPANIES INC.
and SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS, at December 31,
(in millions of dollars, except per share data)
--------------------
2000 1999
---- ----
ASSETS
Consumer products
Cash and cash equivalents $ 937 $ 5,100
Receivables (less allowances of $199 and $164) 5,019 4,313
Inventories:
Leaf tobacco 3,749 4,294
Other raw materials 1,721 1,794
Finished product 3,295 2,940
-------- --------
8,765 9,028
Other current assets 2,517 2,454
-------- --------
Total current assets 17,238 20,895
Property, plant and equipment, at cost:
Land and land improvements 784 633
Buildings and building equipment 6,255 5,436
Machinery and equipment 16,440 14,268
Construction in progress 1,427 1,262
-------- --------
24,906 21,599
Less accumulated depreciation 9,603 9,328
-------- --------
15,303 12,271
Goodwill and other intangible assets
(less accumulated amortization of
$6,319 and $5,840) 33,090 16,879
Assets held for sale 276
Other assets 4,758 3,625
-------- --------
Total consumer products assets 70,665 53,670
Financial services
Finance assets, net 8,118 7,527
Other assets 284 184
-------- --------
Total financial services assets 8,402 7,711
-------- --------
TOTAL ASSETS $ 79,067 $ 61,381
======== ========
2000 1999
---- ----
LIABILITIES
Consumer products
Short-term borrowings $ 3,166 $ 641
Current portion of long-term debt 5,775 1,601
Accounts payable 3,787 3,351
Accrued liabilities:
Marketing 3,082 2,756
Taxes, except income taxes 1,436 1,519
Employment costs 1,317 972
Settlement charges 2,724 2,320
Other 2,572 2,605
Income taxes 914 1,124
Dividends payable 1,176 1,128
-------- --------
Total current liabilities 25,949 18,017
Long-term debt 18,255 11,280
Deferred income taxes 1,827 1,214
Accrued postretirement health care costs 3,287 2,606
Other liabilities 7,317 6,853
-------- --------
Total consumer products liabilities 56,635 39,970
Financial services
Short-term borrowings 1,027
Long-term debt 899 946
Deferred income taxes 4,838 4,466
Other liabilities 663 694
-------- --------
Total financial services liabilities 7,427 6,106
-------- --------
Total liabilities 64,062 46,076
-------- --------
Contingencies (Note 15)
STOCKHOLDERS' EQUITY
Common stock, par value $0.33 1/3 per share
(2,805,961,317 shares issued) 935 935
Earnings reinvested in the business 33,481 29,556
Accumulated other comprehensive losses
(including currency translation of $2,864 and $2,056) (2,950) (2,108)
Cost of repurchased stock
(597,064,937 and 467,441,576 shares) (16,461) (13,078)
-------- --------
Total stockholders' equity 15,005 15,305
-------- --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 79,067 $ 61,381
======== ========
See notes to consolidated financial statements.
2
CONSOLIDATED STATEMENTS of EARNINGS
for the years ended December 31,
(in millions of dollars, except per share data)
----------
2000 1999 1998
---- ---- ----
Operating revenues $80,356 $78,596 $74,391
Cost of sales 29,148 29,561 26,820
Excise taxes on products 17,080 16,845 16,578
------- ------- -------
Gross profit 34,128 32,190 30,993
Marketing, administration and research costs 18,858 18,118 17,051
Settlement charges 3,381
Amortization of goodwill 591 582 584
------- ------- -------
Operating income 14,679 13,490 9,977
Interest and other debt expense, net 719 795 890
------- ------- -------
Earnings before income taxes 13,960 12,695 9,087
Provision for income taxes 5,450 5,020 3,715
------- ------- -------
Net earnings $ 8,510 $ 7,675 $ 5,372
======= ======= =======
Per share data:
Basic earnings per share $ 3.77 $ 3.21 $ 2.21
======= ======= =======
Diluted earnings per share $ 3.75 $ 3.19 $ 2.20
======= ======= =======
See notes to consolidated financial statements.
3
CONSOLIDATED STATEMENTS of STOCKHOLDERS' EQUITY
(in millions of dollars, except per share data)
-------------
Accumulated Other
Comprehensive Earnings (Losses)
-------------------------------
Earnings
Reinvested Currency Cost of Total
Common in the Translation Repurchased Stockholders'
Stock Business Adjustments Other Total Stock Equity
--------- -------- ----------- -------- -------- ---------- -------------
Balances, January 1, 1998 $ 935 $ 24,924 $ (1,109) $ -- $ (1,109) $ (9,830) $ 14,920
Comprehensive earnings:
Net earnings 5,372 5,372
Other comprehensive earnings, net of income taxes:
Currency translation adjustments 28 28 28
Additional minimum pension liability (25) (25) (25)
--------
Total other comprehensive earnings 3
--------
Total comprehensive earnings 5,375
--------
Exercise of stock options and issuance of other
stock awards 50 287 337
Cash dividends declared ($1.68 per share) (4,085) (4,085)
Stock repurchased (350) (350)
-------- -------- -------- -------- -------- -------- --------
Balances, December 31, 1998 935 26,261 (1,081) (25) (1,106) (9,893) 16,197
Comprehensive earnings:
Net earnings 7,675 7,675
Other comprehensive losses, net of income taxes:
Currency translation adjustments (975) (975) (975)
Additional minimum pension liability (27) (27) (27)
--------
Total other comprehensive losses (1,002)
--------
Total comprehensive earnings 6,673
--------
Exercise of stock options and issuance of other
stock awards 13 115 128
Cash dividends declared ($1.84 per share) (4,393) (4,393)
Stock repurchased (3,300) (3,300)
-------- -------- -------- -------- -------- -------- --------
Balances, December 31, 1999 935 29,556 (2,056) (52) (2,108) (13,078) 15,305
Comprehensive earnings:
Net earnings 8,510 8,510
Other comprehensive losses, net of income taxes:
Currency translation adjustments (808) (808) (808)
Additional minimum pension liability (34) (34) (34)
--------
Total other comprehensive losses (842)
--------
Total comprehensive earnings 7,668
--------
Exercise of stock options and issuance of other
stock awards (37) 217 180
Cash dividends declared ($2.02 per share) (4,548) (4,548)
Stock repurchased (3,600) (3,600)
-------- -------- -------- -------- -------- -------- --------
Balances, December 31, 2000 $ 935 $ 33,481 $ (2,864) $ (86) $ (2,950) $(16,461) $ 15,005
======== ======== ======== ======== ======== ======== ========
See notes to consolidated financial statements.
4
CONSOLIDATED STATEMENTS of CASH FLOWS
for the years ended December 31,
(in millions of dollars)
----------
2000 1999 1998
---- ---- ----
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Net earnings - Consumer products $ 8,345 $ 7,534 $ 5,255
- Financial services 165 141 117
-------- -------- --------
Net earnings 8,510 7,675 5,372
Adjustments to reconcile net earnings to operating cash flows:
Consumer products
Depreciation and amortization 1,717 1,702 1,690
Deferred income tax provision (benefit) 660 (156) 11
Gains on sales of businesses (274) (62)
Cash effects of changes, net of the effects
from acquired and divested companies:
Receivables, net 7 95 (352)
Inventories 741 (39) (192)
Accounts payable 84 122 (150)
Income taxes (178) 401 565
Accrued liabilities and other current assets (142) 1,343 254
Other (410) (17) 671
Financial services
Deferred income tax provision 346 300 265
Other (17) 11 (14)
-------- -------- --------
Net cash provided by operating activities 11,044 11,375 8,120
-------- -------- --------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures (1,682) (1,749) (1,804)
Purchase of Nabisco, net of acquired cash (15,159)
Purchase of other businesses, net of acquired cash (417) (522) (17)
Proceeds from sales of businesses 433 175 16
Other 28 37 (154)
Financial services
Investments in finance assets (865) (682) (736)
Proceeds from finance assets 156 59 141
-------- -------- --------
Net cash used in investing activities (17,506) (2,682) (2,554)
-------- -------- --------
See notes to consolidated financial statements.
Continued
5
CONSOLIDATED STATEMENTS of CASH FLOWS (Continued)
for the years ended December 31,
(in millions of dollars)
----------
2000 1999 1998
---- ---- ----
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Net issuance of short-term borrowings $ 8,501 $ 435 $ 61
Long-term debt proceeds 3,110 1,339 2,065
Long-term debt repaid (1,702) (1,843) (1,616)
Financial services
Net issuance of short-term borrowings 1,027
Long-term debt proceeds 500
Long-term debt repaid (200) (178)
Repurchase of common stock (3,597) (3,329) (307)
Dividends paid (4,500) (4,338) (3,984)
Issuance of common stock 112 74 265
Other (293) (135) (200)
------- ------- -------
Net cash provided by (used in) financing activities 2,658 (7,497) (3,894)
------- ------- -------
Effect of exchange rate changes on cash and cash equivalents (359) (177) 127
------- ------- -------
Cash and cash equivalents:
(Decrease) increase (4,163) 1,019 1,799
Balance at beginning of year 5,100 4,081 2,282
------- ------- -------
Balance at end of year $ 937 $ 5,100 $ 4,081
======= ======= =======
Cash paid: Interest - Consumer products $ 1,005 $ 1,086 $ 1,141
======= ======= =======
- Financial services $ 102 $ 75 $ 79
======= ======= =======
Income taxes $ 4,358 $ 4,308 $ 2,644
======= ======= =======
See notes to consolidated financial statements.
6
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Summary of Significant Accounting Policies:
Basis of presentation:
The consolidated financial statements include the Company and its
subsidiaries. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosure
of contingent assets and liabilities at the dates of the financial
statements and the reported amounts of operating revenues and expenses
during the reporting periods. Actual results could differ from those
estimates.
Balance sheet accounts are segregated by two broad types of business.
Consumer products assets and liabilities are classified as either
current or non-current, whereas financial services assets and
liabilities are unclassified, in accordance with respective industry
practices.
Certain prior years' amounts have been reclassified to conform with the
current year's presentation.
Cash and cash equivalents:
Cash equivalents include demand deposits with banks and all highly liquid
investments with original maturities of three months or less.
Inventories:
Inventories are stated at the lower of cost or market. The last-in,
first-out ("LIFO") method is used to cost substantially all domestic
inventories. The cost of other inventories is principally determined by
the average cost method. It is a generally recognized industry practice
to classify leaf tobacco inventory as a current asset although part of
such inventory, because of the duration of the aging process,
ordinarily would not be utilized within one year.
Impairment of long-lived assets:
The Company reviews long-lived assets for impairment whenever events or
changes in business circumstances indicate that the carrying amount of
the assets may not be fully recoverable. The Company performs
undiscounted operating cash flow analyses to determine if an impairment
exists. If an impairment is determined to exist, any related impairment
loss is calculated based on fair value. Impairment losses on assets to
be disposed of, if any, are based on the estimated proceeds to be
received, less costs of disposal.
Depreciation, amortization and goodwill valuation:
Property, plant and equipment are stated at historical cost and
depreciated by the straight-line method over the lives of the assets.
Machinery and equipment are depreciated over periods ranging from 3 to
20 years and buildings and building improvements over periods up to 50
years. Goodwill and other intangible assets substantially comprise
brand names purchased through acquisitions. In consideration of the
long histories of these brands, goodwill and other intangible assets
associated with them are amortized on the straight-line method over 40
years. The Company periodically evaluates the recoverability of its
intangible assets and measures any impairment by comparison with
estimated undiscounted operating cash flows.
Advertising costs:
Advertising costs are expensed as incurred.
7
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Income taxes:
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income
Taxes." Under SFAS No. 109, deferred tax assets and liabilities are
determined based on the difference between the financial statement and
tax bases of assets and liabilities, using enacted tax rates in effect
for the year in which the differences are expected to reverse.
Revenue recognition:
The Company's consumer products businesses recognize operating revenues
upon shipment of goods when title and risk of loss passes to customers.
Staff Accounting Bulletin No. 101, "Revenue Recognition," issued by the
Securities and Exchange Commission, did not have an impact on the
Company's operating revenues for any of the years presented. For the
Company's financial services segment, income attributable to leveraged
leases is initially recorded as unearned income and subsequently
recognized as finance lease revenue over the terms of the respective
leases at a constant after-tax rate of return on the positive net
investment. Income attributable to direct finance leases is initially
recorded as unearned income and subsequently recognized as finance
lease revenue over the terms of the respective leases at a constant
pre-tax rate of return on the net investment.
During 2000, the Emerging Issues Task Force ("EITF") issued EITF No.
00-14, "Accounting for Certain Sales Incentives." EITF Issue No. 00-14
addresses the recognition, measurement and statement of earnings
classification for certain sales incentives and will be effective in
the second quarter of 2001. As a result, certain items previously
included in cost of sales and in marketing, administration and research
costs on the consolidated statement of earnings will be recorded as a
reduction of operating revenues. The Company has determined that the
impact of adoption or subsequent application of EITF Issue No. 00-14
will not have a material effect on its consolidated financial position
or results of operations. Upon adoption, prior period amounts, which
are not expected to be significant, will be reclassified to conform to
the new requirements. In addition, the EITF issued EITF No. 00-10,
"Accounting for Shipping and Handling Fees and Costs." EITF No. 00-10
addresses the statement of earnings classification of shipping and
handling costs billed to customers and was effective for the fourth
quarter of 2000. EITF No. 00-10 did not have an impact on the
consolidated financial statements of the Company for any of the years
presented.
Hedging instruments:
The Company utilizes certain financial instruments to manage its foreign
currency, commodity and interest rate exposures. The Company does not
engage in trading or other speculative use of these financial
instruments. For a financial instrument to qualify as a hedge, the
Company must be exposed to price, currency or interest rate risk, and
the financial instrument must reduce the exposure and be designated as
a hedge. Additionally, for hedges of anticipated transactions, the
significant characteristics and expected terms of the anticipated
transaction must be identified, and it must be probable that the
anticipated transaction will occur. Financial instruments qualifying
for hedge accounting must maintain a high correlation between the
hedging instrument and the item being hedged, both at inception and
throughout the hedged period.
The Company uses forward contracts, options and swap agreements to
mitigate its foreign currency exposure. The corresponding gains and
losses on those contracts are deferred and included in the basis of the
underlying hedged transactions when settled. Options are used to hedge
anticipated transactions. Option premiums are recorded generally as
other current assets on the consolidated balance sheets and amortized
to interest and other debt expense, net, over the lives of the related
8
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
options. The intrinsic values of options are recognized as adjustments
to the related hedged items. If anticipated transactions were not to
occur, any gains or losses would be recognized in earnings currently.
Foreign currency and related interest rate swap agreements are used to
hedge certain foreign currency net investments. Realized and unrealized
gains and losses on foreign currency swap agreements that are effective
as hedges of net assets in foreign subsidiaries are offset against
currency translation adjustments as accumulated other comprehensive
losses. The interest differential to be paid or received under the
currency and related interest rate swap agreement is included in
interest and other debt expense, net. Gains and losses on terminated
foreign currency swap agreements, if any, are recorded in stockholders'
equity as currency translation adjustments.
Commodity futures and forward contracts are used by the Company to procure
raw materials, primarily coffee, cocoa, sugar, milk, cheese, wheat and
corn. Commodity futures and options are also used to hedge the price of
certain commodities, primarily coffee and cocoa. Realized gains and
losses on commodity futures, forward contracts and options are deferred
as a component of inventories and are recognized when related raw
material costs are charged to cost of sales. If the anticipated
transaction were not to occur, the gain or loss would be recognized in
earnings currently.
The Company uses interest rate swaps to hedge certain interest rate
exposures. The differential to be paid or received is accrued and
recognized as interest expense. Any premium paid or received is
amortized on a straight-line basis over the duration of the hedged
instrument. If an interest rate swap agreement is terminated prior to
maturity, the realized gain or loss is recognized over the remaining
life of the agreement if the hedged amount remains outstanding, or
immediately if the underlying hedged exposure does not remain
outstanding. If the underlying exposure is terminated prior to the
maturity of the interest rate swap, the unrealized gain or loss on the
related interest rate swap is recognized in earnings currently.
During 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which had an initial adoption date of January 1, 2000.
During 1999, the FASB postponed the required adoption date of SFAS No.
133 until January 1, 2001. In addition, during 2000, the FASB issued
SFAS No. 138 "Accounting for Certain Derivative Instruments and Certain
Hedging Activities," which amends the requirements of SFAS No. 133.
These standards require that all derivative financial instruments be
recorded on consolidated balance sheets at fair value as either assets
or liabilities. Changes in the fair value of derivatives will be
recorded each period in earnings or other comprehensive earnings,
depending on whether a derivative is designated and effective as part
of a hedge transaction and, if it is, the type of hedge transaction.
Gains and losses on derivative instruments reported in other
comprehensive earnings will be reclassified as earnings in the periods
in which earnings are affected by the hedged item. Initial adoption of
these new standards on January 1, 2001 will have an insignificant
impact on the Company's consolidated financial position and results of
operations. Since the impact of SFAS No. 133 after adoption is
dependent on future market rates and outstanding derivative positions,
the Company cannot determine the impact that application subsequent to
January 1, 2001 will have on its financial position or results of
operations.
Stock-based compensation:
The Company accounts for employee stock compensation plans in accordance
with the intrinsic value-based method permitted by SFAS No. 123,
"Accounting for Stock-Based Compensation," which does not result in
compensation cost.
9
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Software costs:
The Company capitalizes certain computer software and software development
costs incurred in connection with developing or obtaining computer
software for internal use in accordance with Statement of Position No.
98-1 ("SOP 98-1"), "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use," which was adopted by the
Company as of January 1, 1998. Capitalized software costs are amortized
on a straight-line basis over the estimated useful lives of the
software, which do not exceed five years.
Foreign currency translation:
The Company translates the results of operations of its foreign
subsidiaries using average exchange rates during each period, whereas
balance sheet accounts are translated using exchange rates at the end
of each period. Currency translation adjustments are recorded as a
component of stockholders' equity.
Note 2. Divestitures:
During 2000, the Company sold a French confectionery business for proceeds of
$251 million, on which a pre-tax gain of $139 million was recorded. In
addition, Miller Brewing Company ("Miller"), the Company's beer
subsidiary, sold its rights to Molson trademarks in the United States for
proceeds of $131 million, on which a pre-tax gain of $100 million was
recorded. The aggregate proceeds received in divestiture transactions in
2000, including the sale of several small international food, domestic
food and beer businesses, were $433 million, on which the Company recorded
pre-tax gains of $274 million.
During 1999, the Company sold several small international and domestic food
businesses. The aggregate proceeds received in these transactions were
$175 million, on which the Company recorded pre-tax gains of $62 million.
The operating results of the businesses sold were not material to the
Company's consolidated operating results in any of the periods presented.
Pre-tax gains on these divestitures were included in marketing,
administration and research costs in the Company's consolidated statements
of earnings.
Note 3. Acquisitions:
Nabisco
On December 11, 2000, the Company acquired all of the outstanding shares of
Nabisco Holdings Corp. ("Nabisco") for $55 per share in cash. The purchase
of the outstanding shares, retirement of employee stock options and other
payments totaled approximately $15.2 billion. In addition, the acquisition
included the assumption of approximately $4.0 billion of existing Nabisco
debt. The acquisition was financed by the Company through the issuance of
$9.2 billion of short-term obligations, $3.0 billion of short-term
floating rate notes and $3.0 billion of available cash. The acquisition
has been accounted for as a purchase. Nabisco's balance sheet has been
consolidated with the Company as of December 31, 2000; however, Nabisco's
earnings subsequent to December 11, 2000 have not been included in the
consolidated operating results of the Company since such amounts were
insignificant to consolidated operating results for the year ended
December 31, 2000. The Company's interest cost on borrowings associated
with acquiring Nabisco have been included in
10
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
interest and other debt expense, net, on the Company's consolidated
statement of earnings for the year ended December 31, 2000.
In order to comply with United States of America trade regulations governing
the acquisition, Nabisco sold its domestic dry packaged dessert and baking
powder businesses, as well as its intense mints and gum businesses in
December 2000. Since these businesses were sold at fair value, no gain or
loss related to these sales was recorded in the Company's consolidated
statement of earnings for the year ended December 31, 2000. In addition,
the Company has determined that it will sell six additional Nabisco
businesses that do not align strategically with the Company's food
operations. The estimated net realizable value of these businesses, plus
the estimated results of operations through anticipated sales dates
throughout 2001, total $276 million and have been segregated as assets
held for sale on the Company's consolidated balance sheet at December 31,
2000.
The excess of the purchase price over the estimated fair value of the net
assets purchased was approximately $16.8 billion and will be amortized
over 40 years by the straight-line method. The allocation of excess
purchase price is based upon preliminary estimates and assumptions and is
subject to revision when appraisals and integration plans have been
finalized. Accordingly, revisions to the allocation, which may be
significant, will be reported in a future period as increases or decreases
to amounts previously reported as goodwill, other intangible assets
(including trade names), deferred income taxes and amortization of
intangibles. At December 31, 2000, excess purchase price has been
allocated to reflect current estimates as follows:
Increase (Decrease) to
Excess Purchase Price
-----------------------
(in millions)
Purchase price $15,254
Historical value of assets acquired and liabilities assumed (1,271)
-------
Excess of purchase price over assets acquired and liabilities
assumed at the date of acquisition 16,525
Adjustments for allocation of purchase price:
Inventories (4)
Property, plant and equipment (45)
Assets held for sale (59)
Other intangibles (primarily workforce) (100)
Debt 70
Other, principally benefit plans 561
Deferred income taxes (176)
-------
Unallocated excess purchase price at December 31, 2000 $16,772
=======
In addition to the above, the Company is evaluating plans to close up to 30
additional Nabisco domestic and international facilities, pending the
completion of logistical studies. The closure of these facilities could
result in additional severance and other exit liabilities (and a
corresponding increase to excess purchase price) of $500 million to $600
million. These amounts will be recorded on the Company's consolidated
balance sheet as adjustments to the excess purchase price when plans have
been finalized and announced to employees.
11
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The integration of Nabisco into the operations of Kraft Foods Inc. ("Kraft"),
the Company's wholly-owned food subsidiary, may result in the closure of
several existing Kraft plants. These actions could result in charges of
$200 million to $300 million, which will be recorded as expense in the
Company's consolidated statement of earnings in the period during which
plans are finalized and announced.
Had the acquisition of Nabisco occurred at the beginning of 2000 and 1999,
pro forma operating revenues, net earnings, basic earnings per share and
diluted earnings per share, after giving effect to the previously
discussed preliminary allocation of excess purchase price, Nabisco
businesses sold or to be sold and the interest expense on acquisition
borrowings, would have been as follows for the years ended December 31,
2000 and 1999:
2000 1999
---- ----
(in millions, except per share data, unaudited)
Operating revenues $88,503 $86,138
Net earnings 7,958 7,084
Basic earnings per share 3.52 2.96
Diluted earnings per share 3.50 2.95
The pro forma results do not give effect to any synergies expected to result
from the merger of Nabisco's operations with those of Kraft. Accordingly,
the pro forma results are not necessarily indicative of what actually
would have occurred if the acquisition had been consummated at the
beginning of each year, nor are they necessarily indicative of future
consolidated results.
The Nabisco condensed balance sheet data at December 31, 2000, including the
previously discussed preliminary allocations of excess purchase price, has
been included in the Company's consolidated balance sheet at December 31,
2000, as follows:
(in millions)
Assets
Current assets $ 1,840
Property, plant and equipment 2,851
Goodwill 16,772
Other assets 909
--------
Total assets $ 22,372
========
Liabilities
Current liabilities $ 2,242
Long-term debt 2,392
Other long-term liabilities 1,464
--------
Total liabilities $ 6,098
========
In 2001, Kraft plans to undertake an initial public offering ("IPO") of less
than 20% of its common stock. If completed as anticipated, the IPO
proceeds will be used to retire a portion of the debt incurred as a result
of the acquisition of Nabisco.
12
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Other Acquisitions
During 2000, Kraft purchased the outstanding common stock of Balance Bar Co.,
a maker of energy and nutrition snack products. In a separate transaction,
Kraft also acquired Boca Burger, Inc., a privately held manufacturer and
marketer of soy-based meat alternatives. The total cost of these
acquisitions was $358 million.
During 1999, Philip Morris International ("PM International"), the Company's
international tobacco subsidiary, increased its ownership interest in a
Portuguese tobacco company from 65% to 90% at a cost of $70 million. PM
International also increased its ownership interest in a Polish tobacco
company from 75% to 96% at a cost of $104 million.
During 1999, Miller purchased four trademarks from the Pabst Brewing Company
("Pabst") and the Stroh Brewery Company. Miller also agreed to increase
its contract manufacturing of Pabst products. In addition, Miller assumed
ownership of the Pabst brewery in Tumwater, Washington. The total cost of
the four trademarks and the brewery was $189 million.
During 1998, Philip Morris Incorporated ("PM Inc."), the Company's domestic
tobacco subsidiary, paid $150 million for options to purchase the voting
and non-voting common stock of a company (the "acquiree"), the sole assets
of which are three U.S. cigarette trademarks, L&M, Lark and Chesterfield.
During 1999, PM Inc. completed the acquisition. Including the $150 million
paid in December 1998, the total acquisition price was approximately $300
million.
The effects of these and other smaller acquisitions were not material to the
Company's consolidated financial position or results of operations in any
of the periods presented.
Note 4. Inventories:
The cost of approximately 52% and 47% of inventories in 2000 and 1999,
respectively, was determined using the LIFO method. The stated LIFO
amounts of inventories were approximately $0.8 billion lower than the
current cost of inventories at December 31, 2000 and 1999.
13
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 5. Short-Term Borrowings and Borrowing Arrangements:
At December 31, the Company's short-term borrowings and related average
interest rates consisted of the following:
2000 1999
--------------------- ----------------------
(in millions)
Average Average
Amount Year-End Amount Year-End
Outstanding Rate Outstanding Rate
----------- -------- ----------- --------
Consumer products:
Bank loans $ 368 9.3% $ 676 8.8%
Commercial paper 9,805 6.7
Amount reclassified
as long-term debt (7,007) (35)
------- ------
$ 3,166 $ 641
======= ======
Financial services:
Commercial paper $ 1,027 6.6%
=======
The fair values of the Company's short-term borrowings at December 31, 2000
and 1999, based upon current market interest rates, approximate the
amounts disclosed above.
The Company and its subsidiaries maintain credit facilities with a number of
lending institutions, amounting to approximately $19.1 billion at December
31, 2000. Approximately $18.7 billion of these facilities were unused at
December 31, 2000. Certain of these facilities, used to support commercial
paper borrowings, are available for acquisitions and other corporate
purposes and require the maintenance of a fixed charges coverage ratio.
The Company's credit facilities include a $9.0 billion, 364-day revolving
credit facility, entered into in October 2000, in connection with the
acquisition of Nabisco, and a term revolving credit facility for $8.0
billion. The term revolving credit facility expires in October 2002 and
enables the Company to reclassify short-term debt on a long-term basis.
Approximately $7.0 billion of short-term borrowings that the Company
intends to refinance were reclassified as long-term debt.
During 2001, Kraft intends to undertake an IPO of less than 20% of its common
stock. If completed as anticipated, the IPO proceeds from the sale of
Kraft stock will be used to retire a portion of the short-term borrowings
used to purchase Nabisco, some of which have been reclassified as
long-term debt.
14
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Long-Term Debt:
At December 31, 2000 and 1999, the Company's long-term debt consisted of the
following:
2000 1999
-------- --------
(in millions)
Consumer products:
Short-term borrowings, reclassified as long-term
debt $ 7,007 $ 35
Notes, 6.00% to 9.25% (average effective
rate 7.13%), due through 2035 12,901 8,315
Debentures, 6.00% to 8.50%
(average effective rate 9.44%),
$1.6 billion face amount, due through 2027 1,500 1,471
Foreign currency obligations:
Euro, 4.50% to 5.63%
(average effective rate 5.07%), due through 2008 1,881 2,103
German mark, 5.63%, due 2002 143 319
Other foreign 193 278
Other 405 360
-------- --------
24,030 12,881
Less current portion of long-term debt (5,775) (1,601)
-------- --------
$ 18,255 $ 11,280
======== ========
Financial services:
Eurodollar bonds, 7.50%, due 2009 $ 497 $ 497
Foreign currency obligations:
French franc, 6.88%, due 2006 141 158
German mark, 6.50% and 5.38%
(average effective rate 5.89%),
due 2003 and 2004 261 291
-------- --------
$ 899 $ 946
======== ========
15
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Aggregate maturities of long-term debt, excluding short-term borrowings
reclassified as long-term debt, are as follows:
Consumer products Financial services
----------------- ------------------
(in millions)
2001 $5,775
2002 1,749
2003 1,596 $ 119
2004 992 142
2005 1,805
2006-2010 3,716 638
2011-2015 643
Thereafter 821
Based on market quotes, where available, or interest rates currently
available to the Company for issuance of debt with similar terms and
remaining maturities, the aggregate fair value of consumer products and
financial services long-term debt, including the current portion of
long-term debt, at December 31, 2000 and 1999, was $24.9 billion and
$13.5 billion, respectively.
Note 7. Capital Stock:
Shares of authorized common stock are 12 billion; issued, repurchased and
outstanding were as follows:
Shares Shares Net Shares
Issued Repurchased Outstanding
------------ ----------- --------------
Balances, January 1, 1998 2,805,961,317 (380,474,028) 2,425,487,289
Exercise of stock options and
issuance of other stock awards 11,501,286 11,501,286
Repurchased (6,454,000) (6,454,000)
------------- ------------ -------------
Balances, December 31, 1998 2,805,961,317 (375,426,742) 2,430,534,575
Exercise of stock options and
issuance of other stock awards 4,614,412 4,614,412
Repurchased (96,629,246) (96,629,246)
------------- ------------ -------------
Balances, December 31, 1999 2,805,961,317 (467,441,576) 2,338,519,741
Exercise of stock options and
issuance of other stock awards 7,938,869 7,938,869
Repurchased (137,562,230) (137,562,230)
------------- ------------ -------------
Balances, December 31, 2000 2,805,961,317 (597,064,937) 2,208,896,380
============= ============ =============
At December 31, 2000, 269,011,330 shares of common stock were reserved for
stock options and other stock awards under the Company's stock plans,
and 10 million shares of Serial Preferred Stock, $1.00 par value, were
authorized, none of which have been issued.
16
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 8. Stock Plans:
Under the Philip Morris 1997 Performance Incentive Plan (the "1997 Plan"),
the Company may grant to eligible employees stock options, stock
appreciation rights, restricted stock, reload options and other
stock-based awards, as well as cash-based annual and long-term
incentive awards. Up to 120 million shares of common stock may be
issued under the 1997 Plan, of which no more than 36 million shares may
be awarded as restricted stock. Shares available to be granted under
the 1997 Plan at December 31, 2000 were 22,944,839.
In 2000, the Company's Board of Directors adopted, and the stockholders
approved, the Philip Morris 2000 Performance Incentive Plan (the "2000
Plan"). The 2000 Plan is intended to replace the 1997 Plan when all
shares available for issuance under the 1997 Plan have been issued or
are subject to outstanding awards. No shares will be issued under the
2000 Plan until the remaining shares under the 1997 Plan are used.
Under the 2000 Plan, the Company may grant to eligible employees stock
options, stock appreciation rights, restricted stock, reload options
and other stock-based awards, as well as cash-based annual and
long-term incentive awards. Up to 110 million shares of common stock
may be issued under the 2000 Plan, of which no more than 27.5 million
shares may be awarded as restricted stock. Also in 2000, the Company's
Board of Directors adopted, and the stockholders approved, the 2000
Stock Compensation Plan for Non-Employee Directors (the "2000 Directors
Plan"). Under the 2000 Directors Plan, only members of the Board of
Directors who are not employees of the Company or its subsidiaries are
granted awards. Up to one million shares of common stock may be awarded
under the 2000 Directors Plan. Shares available to be granted under the
2000 Plan and 2000 Directors Plan at December 31, 2000 were 110,000,000
and 874,693, respectively.
Stock options are granted at an exercise price of not less than fair value
on the date of the grant. Stock options granted under the 1997 Plan,
the 2000 Plan or the 2000 Directors Plan (collectively, "the Plans")
generally become exercisable on the first anniversary of the grant date
and have a maximum term of ten years.
The Company applies the intrinsic value-based methodology in accounting for
the Plans. Accordingly, no compensation expense has been recognized
other than for restricted stock awards. Had compensation cost for stock
option awards under the Plans been determined by using the fair value
at the grant date, the Company's net earnings and basic and diluted
earnings per share ("EPS") would have been $8,389 million, $3.71 and
$3.69, respectively, for the year ended December 31, 2000; $7,582
million, $3.17 and $3.16, respectively, for the year ended December 31,
1999; and $5,280 million, $2.17 and $2.16, respectively, for the year
ended December 31, 1998. The foregoing impact of compensation cost was
determined using a modified Black-Scholes methodology and the following
assumptions:
Weighted
Average Expected
Risk-Free Expected Expected Dividend Fair Value
Interest Rate Life Volatility Yield At Grant Date
------------- -------- ---------- -------- -------------
2000 6.57% 5 years 31.73% 8.98% $ 3.22
1999 5.81 5 26.06 4.41 8.21
1998 5.52 5 23.83 4.03 7.78
17
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Option activity was as follows for the years ended December 31, 1998, 1999 and 2000:
Weighted
Shares Subject Average Options
to Option Exercise Price Exercisable
-------------- -------------- -----------
Balance at January 1, 1998 83,645,559 $29.13 67,827,399
Options granted 18,652,100 39.74
Options exercised (12,042,497) 22.56
Options canceled (3,051,498) 31.74
-------------
Balance at December 31, 1998 87,203,664 32.21 68,864,594
Options granted 22,154,585 39.87
Options exercised (5,665,611) 20.37
Options canceled (3,386,670) 30.08
-------------
Balance at December 31, 1999 100,305,968 34.65 78,423,023
Options granted 41,535,255 21.47
Options exercised (5,263,363) 21.16
Options canceled (3,578,922) 32.87
------------
Balance at December 31, 2000 132,998,938 31.11 92,266,885
============
The weighted average exercise prices of options exercisable at December 31,
2000, 1999 and 1998 were $35.30, $33.19 and $30.21, respectively.
The following table summarizes the status of stock options outstanding and
exercisable as of December 31, 2000 by range of exercise price:
Options Outstanding Options Exercisable
-------------------------------------------------- ----------------------------
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
---------- ----------- ---------- --------- ----------- ---------
$16.35 - $22.09 47,685,580 8 years $20.80 7,744,510 $17.99
24.52 - 34.90 29,367,639 4 29.35 29,100,072 29.31
35.75 - 40.00 41,998,194 7 39.81 41,474,778 39.84
41.62 - 58.72 13,947,525 6 43.90 13,947,525 43.90
----------- ----------
132,998,938 92,266,885
=========== ==========
18
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The Company may grant shares of restricted stock and rights to receive
shares of stock to eligible employees, giving them in most instances
all of the rights of stockholders, except that they may not sell,
assign, pledge or otherwise encumber such shares and rights. Such
shares and rights are subject to forfeiture if certain employment
conditions are not met. During 2000, 1999 and 1998, the Company granted
3,473,270, 100,000 and 603,650 shares, respectively, of restricted
stock to eligible U.S.-based employees and also issued to eligible
non-U.S. employees rights to receive 1,717,640, 125,000 and 120,500
equivalent shares, respectively. At December 31, 2000, restrictions on
the stock, net of forfeitures, lapse as follows: 2001-62,500 shares;
2002-6,363,060 shares; 2003-289,250 shares; 2004-126,000 shares; and
2005 and thereafter-417,000 shares.
The fair value of the restricted shares and rights at the date of grant is
amortized to expense ratably over the restriction period. The Company
recorded compensation expense related to restricted stock and other
stock awards of $84 million, $9 million and $34 million for the years
ended December 31, 2000, 1999 and 1998, respectively. The unamortized
portion, which is reported as a reduction of earnings reinvested in the
business, was $83 million and $47 million at December 31, 2000 and
1999, respectively.
Note 9. Earnings per Share:
Basic and diluted EPS were calculated using the following for the years
ended December 31, 2000, 1999 and 1998:
2000 1999 1998
------ ------ ------
(in millions)
Net earnings $8,510 $7,675 $5,372
====== ====== ======
Weighted average shares for basic EPS 2,260 2,393 2,429
Plus incremental shares from conversions:
Restricted stock and stock rights 4 2 1
Stock options 8 8 16
------ ------ ------
Weighted average shares for diluted EPS 2,272 2,403 2,446
====== ====== ======
In 2000, 1999, and 1998, options on 69 million, 47 million and 15 million
shares of common stock, respectively, were not included in the
calculation of weighted average shares for diluted EPS because the
effect of their inclusion would be antidilutive.
19
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 10. Pre-tax Earnings and Provision for Income Taxes:
Pre-tax earnings and provision for income taxes consisted of the following
for the years ended December 31, 2000, 1999 and 1998:
2000 1999 1998
-------- -------- --------
(in millions)
Pre-tax earnings:
United States $ 9,264 $ 8,495 $ 5,134
Outside United States 4,696 4,200 3,953
-------- -------- --------
Total pre-tax earnings $ 13,960 $ 12,695 $ 9,087
======== ======== ========
Provision for income taxes:
United States federal:
Current $ 2,571 $ 2,810 $ 1,614
Deferred 736 280 171
-------- -------- --------
3,307 3,090 1,785
State and local 552 485 350
-------- -------- --------
Total United States 3,859 3,575 2,135
-------- -------- --------
Outside United States:
Current 1,321 1,581 1,475
Deferred 270 (136) 105
-------- -------- --------
Total outside United States 1,591 1,445 1,580
-------- -------- --------
Total provision for income taxes $ 5,450 $ 5,020 $ 3,715
======== ======== ========
At December 31, 2000, applicable United States federal income taxes and
foreign withholding taxes have not been provided on approximately $4.7
billion of accumulated earnings of foreign subsidiaries that are
expected to be permanently reinvested. If these amounts were not
considered permanently reinvested, additional deferred income taxes of
approximately $242 million would have been provided.
20
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The effective income tax rate on pre-tax earnings differed from the U.S.
federal statutory rate for the following reasons for the years ended December
31, 2000, 1999 and 1998:
2000 1999 1998
------ ------ ------
U.S. federal statutory rate 35.0% 35.0% 35.0%
Increase (decrease) resulting from:
State and local income taxes, net of
federal tax benefit 2.6 2.5 2.5
Rate differences - foreign operations (1.0) (0.3) (0.2)
Goodwill amortization 1.3 1.4 2.0
Other 1.1 0.9 1.6
------ ------ ------
Effective tax rate 39.0% 39.5% 40.9%
====== ====== ======
The tax effects of temporary differences that gave rise to consumer products
deferred income tax assets and liabilities consisted of the following at
December 31, 2000 and 1999:
2000 1999
------- -------
(in millions)
Deferred income tax assets:
Accrued postretirement and postemployment benefits $ 1,421 $ 1,200
Settlement charges 964 854
Other 591 959
------- -------
Total deferred income tax assets 2,976 3,013
------- -------
Deferred income tax liabilities:
Property, plant and equipment (2,260) (1,851)
Prepaid pension costs (628) (447)
------- -------
Total deferred income tax liabilities (2,888) (2,298)
------- -------
Net deferred income tax assets $ 88 $ 715
======= =======
Financial services deferred income tax liabilities are primarily attributable
to temporary differences from investments in finance leases.
21
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 11. Segment Reporting:
The Company's products include cigarettes, food (consisting principally of
beverages, cheese, snacks, convenient meals and various packaged
grocery products) and beer. A subsidiary of the Company, Philip Morris
Capital Corporation, invests in leveraged and direct finance leases,
other tax-oriented financing transactions and third-party financings.
These products and services constitute the Company's reportable
segments of domestic tobacco, international tobacco, North American
food, international food, beer and financial services.
The Company's management reviews operating companies income to evaluate
segment performance and allocate resources. Operating companies income
for the reportable segments excludes general corporate expenses,
minority interest and amortization of goodwill. Interest and other debt
expense, net (consumer products), and provision for income taxes are
centrally managed at the corporate level and, accordingly, such items
are not presented by segment since they are excluded from the measure
of segment profitability reviewed by the Company's management. The
Company's assets are managed on a worldwide basis by major products
and, accordingly, asset information is reported for the tobacco, food,
beer and financial services segments. Goodwill and related amortization
are principally attributable to the food businesses. Other assets
consist primarily of cash and cash equivalents. The accounting policies
of the segments are the same as those described in the Summary of
Significant Accounting Policies. Effective in 2000, managerial
responsibility for the Company's food operations in Mexico and Puerto
Rico was transferred from the international food segment to the North
American food segment. Accordingly, all prior period amounts have been
reclassified to reflect the transfer.
Reportable segment data were as follows:
For the years ended December 31,
---------------------------------
2000 1999 1998
------- ------- -------
(in millions)
Operating revenues:
Domestic tobacco $22,658 $19,596 $15,310
International tobacco 26,374 27,506 27,390
North American food 18,461 17,897 17,640
International food 8,071 8,900 9,671
Beer 4,375 4,342 4,105
Financial services 417 355 275
------- ------- -------
Total operating revenues $80,356 $78,596 $74,391
======= ======= =======
22
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
For the years ended December 31,
--------------------------------
2000 1999 1998
-------- -------- --------
(in millions)
Operating companies income:
Domestic tobacco $ 5,350 $ 4,865 $ 1,489
International tobacco 5,211 4,968 5,029
North American food 3,547 3,190 3,128
International food 1,208 1,063 1,054
Beer 650 511 451
Financial services 262 228 183
-------- -------- --------
Total operating companies income 16,228 14,825 11,334
Amortization of goodwill (591) (582) (584)
General corporate expenses (831) (627) (645)
Minority interest (127) (126) (128)
-------- -------- --------
Total operating income 14,679 13,490 9,977
Interest and other debt expense, net (719) (795) (890)
-------- -------- --------
Total earnings before income taxes $ 13,960 $ 12,695 $ 9,087
======== ======== ========
During 1999, PM Inc. announced plans to phase out cigarette production
capacity at its Louisville, Kentucky, manufacturing plant by August 2000 (the
"Louisville Closure"). PM Inc. recorded pre-tax charges of $183 million
during 1999. These charges, which are in marketing, administration and
research costs in the consolidated statement of earnings for the domestic
tobacco segment, included enhanced severance, pension and postretirement
benefits for approximately 1,500 hourly and salaried employees. Severance
benefits, which were either paid in a lump sum or as income protection
payments over a period of time, commenced upon termination of employment.
Payments of enhanced pension and postretirement benefits are being made over
the remaining lives of the former employees in accordance with the terms of
the related benefit plans. All operating costs of the manufacturing plant,
including increased depreciation, were charged to expense as incurred during
the closing period. As of June 30, 2000, the facility was closed. As of
December 31, 2000, the remaining liability of approximately $50 million is
comprised of severance, substantially all of which will be paid in the first
six months of 2001 in accordance with the Company's plans. During 1998, PM
Inc. recorded pre-tax charges of $319 million, principally for voluntary
separation, early retirement and severance programs. The 1998 charges were
primarily for enhanced pension and postretirement benefits for the
approximately 2,100 hourly and salaried employees at various operating
locations who elected to participate in the program. Benefit payments were
made in accordance with the provisions of the related pension and
postretirement benefit plans. Operating companies income for the domestic
tobacco segment also included pre-tax tobacco litigation settlement charges
of $3,381 million for the year ended December 31, 1998.
During 1999, Kraft Foods North America ("Kraft N.A.") announced that it was
offering voluntary retirement incentive or separation programs to certain
eligible hourly and salaried employees in the United States (the "Kraft
Separation Programs"). Employees electing to terminate employment under the
terms of the Kraft Separation Programs were entitled to enhanced retirement
or severance benefits. Approximately 1,100 hourly and salaried employees
accepted the benefits offered by these programs and elected to retire or
terminate. As a result, Kraft N.A. recorded a pre-tax charge of $157 million
during 1999. This charge was included in marketing, administration and
research costs in the consolidated statement of earnings for the North
American food segment. Payments of pension and postretirement benefits are
made in accordance with the terms of the applicable benefit plans. Severance
benefits, which were paid over a period of time, commenced upon dates of
termination that ranged from April 1999 to March 2000. The program was
completed during 2000.
23
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Salary and related benefit costs of employees prior to the retirement
or termination date were expensed as incurred.
During 1999, PM International announced the closure of a cigarette factory
and the corresponding reduction of cigarette production capacity in
Brazil. Prior to the factory closure, existing employees were offered
voluntary dismissal benefits. These benefits were accepted by half of
the approximately 1,000 employees at the facility. During the third
quarter of 1999, the factory was closed and the remaining employees
were terminated. PM International recorded a pre-tax charge of $136
million in marketing, administration and research costs in the
consolidated statement of earnings of the international tobacco segment
to write down the tobacco machinery and equipment no longer in use and
to recognize the cost of severance benefits. As of December 31, 2000,
the remaining liability of approximately $4 million is comprised
principally of severance.
Miller recorded a pre-tax charge of $29 million in marketing,
administration and research costs in the consolidated statement of
earnings of the beer segment in 1999 to write down the book value of
three brewing facilities to their estimated fair values. During 2000,
one of the facilities was closed, while the remaining two facilities
were sold.
General corporate expenses for the year ended December 31, 1998 included
pre-tax charges of $116 million related to the settlement of
shareholder litigation and $18 million for separation programs covering
approximately 100 hourly and salaried employees at the Company's
corporate headquarters.
See Notes 2 and 3 regarding divestitures and acquisitions.
24
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
For the years ended December 31,
--------------------------------
2000 1999 1998
------- ------- -------
(in millions)
Depreciation expense:
Domestic tobacco $ 202 $ 212 $ 216
International tobacco 277 278 267
North American food 310 286 271
International food 189 205 223
Beer 118 114 108
------- ------- -------
1,096 1,095 1,085
Other 30 25 21
------- ------- -------
Total depreciation expense $ 1,126 $ 1,120 $ 1,106
======= ======= =======
Assets:
Tobacco $15,687 $16,241 $16,395
Food 52,071 30,336 31,391
Beer 1,751 1,769 1,503
Financial services 8,402 7,711 6,480
------- ------- -------
77,911 56,057 55,769
Other 1,156 5,324 4,151
------- ------- -------
Total assets $79,067 $61,381 $59,920
======= ======= =======
Capital expenditures:
Domestic tobacco $ 156 $ 122 $ 217
International tobacco 410 561 588
North American food 588 575 545
International food 318 285 296
Beer 135 165 129
------- ------- -------
1,607 1,708 1,775
Other 75 41 29
------- ------- -------
Total capital expenditures $ 1,682 $ 1,749 $ 1,804
======= ======= =======
The Company's operations outside the United States, which are principally
in the tobacco and food businesses, are organized into geographic
regions within each segment, with Europe being the most significant.
Total tobacco and food segment revenues attributable to customers
located in Germany, the Company's largest European market, were $7.6
billion, $8.9 billion and $9.2 billion for the years ended December 31,
2000, 1999 and 1998, respectively.
Geographic data for operating revenues and long-lived assets (which
consist of all financial services assets and non-current consumer
products assets, other than goodwill and other intangible assets) were
as follows:
For the years ended December 31,
---------------------------------
2000 1999 1998
------- ------- -------
(in millions)
Operating revenues:
United States - domestic $43,951 $40,287 $35,432
- export 4,354 5,046 6,005
Europe 23,454 25,103 25,169
Other 8,597 8,160 7,785
------- ------- -------
Total operating revenues $80,356 $78,596 $74,391
======= ======= =======
25
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
For the years ended December 31,
---------------------------------
2000 1999 1998
------- ------- -------
(in millions)
Long-lived assets:
United States $21,314 $17,263 $15,616
Europe 4,020 4,143 4,159
Other 3,405 2,201 2,349
------- ------- -------
Total long-lived assets $28,739 $23,607 $22,124
======= ======= =======
Note 12. Benefit Plans:
The Company and its subsidiaries sponsor noncontributory defined benefit
pension plans covering substantially all U.S. employees. Pension
coverage for employees of the Company's non-U.S. subsidiaries is
provided, to the extent deemed appropriate, through separate plans,
many of which are governed by local statutory requirements. In
addition, the Company and its U.S. and Canadian subsidiaries provide
health care and other benefits to substantially all retired employees.
Health care benefits for retirees outside the United States and Canada
are generally covered through local government plans.
Pension Plans
Net pension cost (income) consisted of the following for the years ended
December 31, 2000, 1999 and 1998:
U.S. Plans Non-U.S. Plans
-------------------------- -------------------------
2000 1999 1998 2000 1999 1998
---- ---- ---- ---- ---- ----
(in millions)
Service cost $ 142 $ 152 $ 156 $ 93 $ 102 $ 91
Interest cost 455 436 406 157 162 165
Expected return on plan assets (799) (766) (615) (175) (168) (150)
Amortization:
Net gain on adoption of SFAS No. 87 (22) (23) (24)
Unrecognized net loss (gain) from
experience differences (53) (22) (3) 3 (4)
Prior service cost 21 19 15 5 6 6
Termination, settlement and curtailment (34) 22 251
----- ----- ----- ------ ----- ------
Net pension cost (income) $(290) $(182) $ 189 $ 77 $ 105 $ 108
===== ===== ===== ====== ===== =====
During 2000, 1999 and 1998, employees left the Company under early
retirement and workforce reduction programs instituted in 1999 and
1998. This resulted in settlement gains of $34 million in 2000,
additional termination benefits of $128 million, net of settlement and
curtailment gains of $106 million in 1999, and additional termination
benefits and curtailment losses of $279 million, net of settlement
gains of $28 million in 1998.
26
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The changes in benefit obligations and plan assets, as well as the funded
status of the Company's pension plans at December 31, 2000 and 1999, were as
follows:
U.S. Plans Non-U.S. Plans
-------------------- --------------------
2000 1999 2000 1999
-------- -------- -------- --------
(in millions)
Benefit obligation at January 1 $ 5,795 $ 6,220 $ 3,037 $ 3,201
Service cost 142 152 93 102
Interest cost 455 436 157 162
Benefits paid (464) (693) (138) (155)
Acquisitions 1,463 236
Termination, settlement and curtailment 11 210
Actuarial (gains) losses 175 (597) 66 (34)
Currency (301) (272)
Other 25 67 33 33
-------- -------- -------- --------
Benefit obligation at December 31 7,602 5,795 3,183 3,037
-------- -------- -------- --------
Fair value of plan assets at January 1 9,621 8,703 2,372 2,248
Actual return on plan assets (350) 1,240 220 252
Contributions 333 309 58 88
Benefits paid (480) (649) (107) (112)
Acquisitions 1,226 265
Currency (192) (194)
Actuarial gains (losses) (8) 18 60 90
-------- -------- -------- --------
Fair value of plan assets at December 31 10,342 9,621 2,676 2,372
-------- -------- -------- --------
Excess (deficit) of plan assets versus benefit
obligations at December 31 2,740 3,826 (507) (665)
Unrecognized actuarial gains (1,167) (2,573) (145) (92)
Unrecognized prior service cost 152 148 46 37
Unrecognized net transition obligation (11) (34) 9 10
-------- -------- -------- --------
Net prepaid pension asset (liability) $ 1,714 $ 1,367 $ (597) $ (710)
======== ======== ======== ========
The combined U.S. and non-U.S. pension plans resulted in a net prepaid
pension asset of $1.1 billion and $657 million at December 31, 2000 and 1999,
respectively. These amounts were recognized in the Company's consolidated
balance sheets at December 31, 2000 and 1999, as other assets of $2.6 billion
and $2.2 billion, respectively, for those plans in which plan assets exceeded
their accumulated benefit obligations, and as other liabilities of $1.5
billion in each year, for those plans in which the accumulated benefit
obligations exceeded their plan assets.
For U.S. plans with accumulated benefit obligations in excess of plan assets,
the projected benefit obligation, accumulated benefit obligation and fair
value of plan assets were $1,485 million, $1,283 million and $926 million,
respectively, as of December 31, 2000, and $305 million, $242 million and $25
million, respectively, as of December 31, 1999. For non-U.S. plans with
accumulated benefit obligations in excess of plan assets, the projected
benefit obligation, accumulated benefit obligation and fair value of plan
assets were $895 million, $804 million and $49 million, respectively, as of
December 31, 2000, and $1,020 million, $917 million and $97 million,
respectively, as of December 31, 1999.
27
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The following weighted-average assumptions were used to determine the
Company's obligations under the plans:
U.S. Plans Non-U.S. Plans
------------------ ------------------
2000 1999 2000 1999
------- ------- ------- -------
Discount rate 7.75% 7.75% 5.52% 5.58%
Expected rate of return on plan assets 9.00 9.00 7.93 7.95
Rate of compensation increase 4.50 4.50 3.81 3.71
The Company and certain of its subsidiaries sponsor deferred profit-sharing
plans covering certain salaried, non-union and union employees. Contributions
and costs are determined generally as a percentage of pre-tax earnings, as
defined by the plans. Certain other subsidiaries of the Company also maintain
defined contribution plans. Amounts charged to expense for defined
contribution plans totaled $211 million, $198 million and $201 million in
2000, 1999 and 1998, respectively.
Postretirement Benefit Plans
Net postretirement health care costs consisted of the following for the years
ended December 31, 2000, 1999 and 1998:
2000 1999 1998
----- ----- -----
(in millions)
Service cost $ 51 $ 56 $ 56
Interest cost 199 188 182
Amortization:
Unrecognized net gain from experience differences (8) (3) (3)
Unrecognized prior service cost (12) (12) (12)
Other expense 23 30
----- ----- -----
Net postretirement health care costs $ 230 $ 252 $ 253
===== ===== =====
During 1999 and 1998, the Company instituted early retirement and workforce
reduction programs. These actions resulted in curtailment losses of $23
million in 1999 and additional postretirement health care costs of $20
million and curtailment losses of $10 million in 1998, all of which are
included in other expense above.
28
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The Company's postretirement health care plans are not funded. The changes in
the benefit obligations of the plans at December 31, 2000 and 1999 were as
follows:
2000 1999
------- -------
(in millions)
Accumulated postretirement benefit obligation at January 1 $ 2,529 $ 2,771
Service cost 51 56
Interest cost 199 188
Benefits paid (161) (142)
Acquisitions 633
Termination, settlement and curtailment 45
Plan amendments 2 (8)
Actuarial losses (gains) 70 (381)
------- -------
Accumulated postretirement benefit obligation at December 31 3,323 2,529
Unrecognized actuarial gains 41 159
Unrecognized prior service cost 76 90
------- -------
Accrued postretirement health care costs $ 3,440 $ 2,778
======= =======
The assumed health care cost trend rate used in measuring the accumulated
postretirement benefit obligation for U.S. plans was 7.0% in 1999, 6.5% in
2000 and 6.0% in 2001, gradually declining to 5.0% by the year 2003 and
remaining at that level thereafter. For Canadian plans, the assumed health
care cost trend rate was 9.0% in 1999, 8.0% in 2000 and 7.0% in 2001,
gradually declining to 4.0% by the year 2004 and remaining at that level
thereafter. A one-percentage-point increase in the assumed health care cost
trend rates for each year would increase the accumulated postretirement
benefit obligation as of December 31, 2000, and postretirement health care
cost (service cost and interest cost) for the year then ended by
approximately 9.4% and 12.0%, respectively. A one-percentage-point decrease
in the assumed health care cost trend rates for each year would decrease the
accumulated postretirement benefit obligation as of December 31, 2000, and
postretirement health care cost (service cost and interest cost) for the year
then ended by approximately 7.7% and 9.6%, respectively.
The accumulated postretirement benefit obligations for U.S. plans at December
31, 2000 and 1999, were determined using assumed discount rates of 7.75%. The
accumulated postretirement benefit obligations for Canadian plans at December
31, 2000 and 1999, were determined using assumed discount rates of 7.0%.
29
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Postemployment Benefit Plans
The Company and certain of its affiliates sponsor postemployment benefit
plans covering substantially all salaried and certain hourly employees. The
cost of these plans is charged to expense over the working life of the
covered employees. Net postemployment costs consisted of the following for
the years ended December 31, 2000, 1999 and 1998:
2000 1999 1998
---- ---- ----
(in millions)
Service cost $ 26 $ 24 $ 25
Amortization of unrecognized net loss 6 2 5
Other expense 161 30
---- ---- ----
Net postemployment costs $ 32 $187 $ 60
==== ==== ====
The Company instituted workforce reduction programs in its tobacco and North
American food operations in 1999 and in its domestic tobacco operations in
1998. These actions resulted in incremental postemployment costs, which are
shown as other expense above.
The Company's postemployment plans are not funded. The changes in the benefit
obligations of the plans at December 31, 2000 and 1999 were as follows:
2000 1999
----- -----
(in millions)
Accumulated benefit obligation at January 1 $ 638 $ 602
Service cost 26 24
Benefits paid (161) (149)
Acquisitions 74
Actuarial losses 79
Other expense 161
----- -----
Accumulated benefit obligation at December 31 656 638
Unrecognized actuarial gains (losses) (89) 5
----- -----
Accrued postemployment costs $ 567 $ 643
===== =====
The accumulated benefit obligation was determined using an assumed ultimate
annual turnover rate of 0.3% in 2000 and 1999, assumed compensation cost
increases of 4.5% in 2000 and 1999, and assumed benefits as defined in the
respective plans. Postemployment costs arising from actions that offer
employees benefits in excess of those specified in the respective plans are
charged to expense when incurred.
30
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 13. Additional Information:
For the years ended December 31,
--------------------------------
2000 1999 1998
------- ------- -------
(in millions)
Research and development expense $ 538 $ 522 $ 506
======= ======= =======
Advertising expense $ 2,353 $ 2,301 $ 2,416
======= ======= =======
Interest and other debt expense, net:
Interest expense $ 1,078 $ 1,100 $ 1,144
Interest income (359) (305) (254)
------- ------- -------
$ 719 $ 795 $ 890
======= ======= =======
Interest expense of financial services
operations included in cost of sales $ 96 $ 89 $ 77
======= ======= =======
Rent expense $ 441 $ 467 $ 429
======= ======= =======
Note 14. Financial Instruments:
Derivative financial instruments
The Company operates internationally, with manufacturing and sales
facilities in various locations around the world. Derivative financial
instruments are used by the Company for purposes other than trading,
principally to reduce exposures to market risks resulting from
fluctuations in interest rates and foreign exchange rates by creating
offsetting exposures. The Company is not a party to leveraged derivatives.
The Company has foreign currency and related interest rate swap agreements
that were executed to reduce the Company's borrowing costs and serve as
hedges of the Company's net assets in foreign subsidiaries, principally
those denominated in Swiss francs. At December 31, 2000 and 1999, the
aggregate notional principal amounts of those agreements were $2.4 billion
and $3.4 billion, respectively. Aggregate maturities at December 31, 2000
were as follows (in millions): 2002, $148; 2003, $146; 2004, $229; 2006,
$839; and 2008, $1,010. The local currency notional amount, which is used
to calculate interest payments that are exchanged over the life of the
swap transaction, is equal to the amount of foreign currency or dollar
principal to be exchanged at maturity.
Forward foreign exchange contracts and foreign currency options are used
by the Company to reduce the effect of fluctuating foreign currencies on
foreign currency denominated intercompany and third-party transactions. At
December 31, 2000 and 1999, the Company had option and forward foreign
exchange contracts, principally for the Japanese yen, Swiss franc and the
Euro, with an aggregate notional amount of $5.8 billion and $3.8 billion,
respectively, for both the purchase and/or sale of foreign currencies.
31
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Credit exposure and credit risk
The Company is exposed to credit loss in the event of nonperformance by
counterparties. However, the Company does not anticipate
nonperformance, and such exposure was not material at December 31,
2000.
Fair value
The aggregate fair value, based on market quotes, of the Company's total
debt at December 31, 2000 was $29.1 billion, approximating its carrying
value. The aggregate fair value of the Company's total debt at December
31, 1999 was $14.1 billion as compared with its carrying value of $14.5
billion.
The carrying values of the foreign currency and related interest rate swap
agreements, the forward foreign currency contracts and the currency
option contracts, which did not differ significantly from their fair
values, were not material.
See Notes 5 and 6 for additional disclosures of fair value for short-term
borrowings and long-term debt.
Note 15. Contingencies:
Legal proceedings covering a wide range of matters are pending or threatened
in various United States and foreign jurisdictions against the Company,
its subsidiaries and affiliates, including PM Inc., PM International and
their respective indemnitees. Various types of claims are raised in these
proceedings, including product liability, consumer protection, antitrust,
tax, patent infringement, employment matters, claims for contribution and
claims of competitors and distributors.
Overview of Tobacco-Related Litigation
Types and Number of Cases
Pending claims related to tobacco products generally fall within the
following categories: (i) smoking and health cases alleging personal
injury brought on behalf of individual plaintiffs, (ii) smoking and health
cases primarily alleging personal injury and purporting to be brought on
behalf of a class of individual plaintiffs, including cases brought
pursuant to a 1997 settlement agreement involving claims by flight
attendants alleging injury from exposure to environmental tobacco smoke
("ETS") in aircraft cabins, (iii) health care cost recovery cases brought
by governmental (both domestic and foreign) and non-governmental
plaintiffs seeking reimbursement for health care expenditures allegedly
caused by cigarette smoking and/or disgorgement of profits and (iv) other
tobacco-related litigation. Other tobacco-related litigation includes
suits by former asbestos manufacturers seeking contribution or
reimbursement for amounts expended in connection with the defense and
payment of asbestos claims that were allegedly caused in whole or in part
by cigarette smoking and suits by foreign governments seeking to recover
damages for taxes lost as a result of the allegedly illegal importation of
cigarettes into their jurisdictions. Damages claimed in some of the
smoking and health class actions, health care cost recovery cases and
other tobacco-related litigation range into the billions of dollars. In
July 2000, a jury in a Florida smoking and health class action returned a
punitive damages award of approximately $74 billion against PM Inc. (See
discussion of the Engle case below.) Plaintiffs' theories of recovery and
the defenses raised in the smoking and health and health care cost
recovery cases are discussed below.
32
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
As of December 31, 2000, there were approximately 1,500 smoking and health
cases filed and served on behalf of individual plaintiffs in the United
States against PM Inc. and, in some instances, the Company, compared with
approximately 380 such cases on December 31, 1999, and approximately 510
such cases on December 31, 1998. Approximately 1,200 of these cases are
pending before a single West Virginia state court in a consolidated
proceeding. Approximately 1,100 of the West Virginia cases were filed
during the third quarter of 2000. An estimated 20 of the individual cases
involve allegations of various personal injuries allegedly related to
exposure to ETS. In addition, approximately 3,085 additional individual
cases are pending in Florida by current and former flight attendants
claiming personal injuries allegedly related to ETS. The flight attendants
allege that they are members of an ETS smoking and health class action
which was settled in 1997. The terms of the court-approved settlement in
that case allow class members to file individual lawsuits seeking
compensatory damages, but prohibit them from seeking punitive damages.
As of December 31, 2000, there were an estimated 36 smoking and health
putative class actions pending in the United States against PM Inc. and,
in some cases, the Company (including eight that involve allegations of
various personal injuries related to exposure to ETS), compared with
approximately 50 such cases on December 31, 1999, and approximately 60
such cases on December 31, 1998. Some of these actions purport to
constitute statewide class actions and were filed after May 1996, when the
United States Court of Appeals for the Fifth Circuit, in the Castano case,
reversed a federal district court's certification of a purported
nationwide class action on behalf of persons who were allegedly "addicted"
to tobacco products.
As of December 31, 2000, there were an estimated 52 health care cost recovery
actions pending in the United States (excluding the cases covered by the
1998 Master Settlement Agreement discussed below), compared with
approximately 60 such cases pending on December 31, 1999, and 140 such
cases on December 31, 1998.
There are also a number of tobacco-related actions pending outside the United
States against PM International and its affiliates and subsidiaries,
including an estimated 68 smoking and health cases brought on behalf of
individuals (Argentina (48), Australia (1), Brazil (9), Canada (1),
Germany (3), Hong Kong (1), Ireland (1), Israel (1), Japan (1), the
Philippines (1), and Poland (1)), compared with approximately 55 such
cases on December 31, 1999 and 27 such cases on December 31, 1998. In
addition, there are 9 smoking and health putative class actions pending
outside the United States (Brazil (3), Canada (4), and Israel (2)),
compared with 10 such cases on December 31, 1999. In addition, health care
cost recovery actions have been brought in Israel, the Marshall Islands,
the Province of British Columbia, Canada and France (by a local agency of
the French social security health insurance system) and, in the United
States, by Bolivia, Ecuador, Guatemala (dismissed, as discussed below),
Honduras, Kyrgyzstan, Nicaragua (dismissed, as discussed below), the
Province of Ontario, Canada (dismissed, as discussed below), Panama, the
Russian Federation, Tajikistan, Thailand (voluntarily dismissed), Ukraine
(dismissed, as discussed below), Venezuela, and seven Brazilian states.
Federal Government's Lawsuit
In 1999, the U.S. government filed a lawsuit in the U.S. District Court for
the District of Columbia against various cigarette manufacturers and
others, including the Company and PM Inc., asserting claims under three
federal statutes, the Medical Care Recovery Act ("MCRA"), the Medicare
Secondary Payer ("MSP") provisions of the Social Security Act and the
Racketeer Influenced and Corrupt Organizations Act ("RICO"). The lawsuit
seeks to recover an unspecified amount of health care costs for
tobacco-related illnesses allegedly caused by defendants' fraudulent and
tortious
33
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
conduct and paid for by the government under various federal health care
programs, including Medicare, military and veterans' health benefits
programs, and the Federal Employees Health Benefits Program. The complaint
alleges that such costs total more than $20 billion annually. It also
seeks various types of equitable and declaratory relief, including
disgorgement, an injunction prohibiting certain actions by the defendants,
and a declaration that the defendants are liable for the federal
government's future costs of providing health care resulting from
defendants' alleged past tortious and wrongful conduct. The Company and PM
Inc. moved to dismiss this lawsuit on numerous grounds, including that the
statutes invoked by the government do not provide a basis for the relief
sought. In September 2000, the trial court dismissed the government's MCRA
and MSP claims, but permitted discovery to proceed on the government's
claims for equitable relief under RICO. In October 2000, the government
moved for reconsideration of the trial court's order to the extent that it
dismissed the MCRA claims for health care costs paid pursuant to
government health benefit programs other than Medicare and the Federal
Employees Health Benefits Act. The motion remains pending. Trial is
scheduled for July 2003, although trial dates are subject to change. The
Company and PM Inc. believe that they have a number of valid defenses to
the lawsuit and will continue to vigorously defend it.
Recent Industry Trial Results
There have been several jury verdicts in tobacco-related litigation during
the past two years. In July 2000, the jury in the Engle smoking and health
class action in Florida returned a verdict assessing punitive damages
totaling approximately $145 billion against all defendants in the case,
including approximately $74 billion against PM Inc. (See "Engle Trial,"
below).
In January 2001, a mistrial was declared in a case in New York in which an
asbestos manufacturers' personal injury settlement trust sought
contribution or reimbursement from cigarette manufacturers, including PM
Inc., for amounts expended in connection with the defense and payment of
asbestos claims that were allegedly caused in whole or in part by
cigarette smoking. In January 2001, a New York jury returned a verdict in
favor of the defendants, including PM Inc., in an individual smoking and
health case.
In October 2000, a Florida jury awarded the plaintiff in an individual
smoking and health case $200,000 in compensatory damages against another
cigarette manufacturer; in December 2000, the trial court vacated the
jury's verdict and granted the defendants' motion for a new trial. In July
2000, a Mississippi jury returned a verdict in favor of another cigarette
manufacturer in an individual smoking and health case. Plaintiffs'
post-trial motions challenging the verdict are currently pending. In June
2000, a New York jury returned a verdict in favor of all defendants,
including PM Inc., in another individual smoking and health case, and
plaintiffs have appealed the verdict. In March 2000, a California jury
awarded a former smoker with lung cancer $1.72 million in compensatory
damages against PM Inc. and another cigarette manufacturer, and $10
million in punitive damages against PM Inc. as well as an additional $10
million against the other defendant. PM Inc. is appealing the verdict and
damages award.
In July 1999, a Louisiana jury returned a verdict in favor of defendants in
an individual smoking and health case against other cigarette
manufacturers. In June 1999, a Mississippi jury returned a verdict in
favor of defendants, including PM Inc., in an action brought on behalf of
an individual who died allegedly as a result of exposure to ETS. In May
1999, a Missouri jury returned a verdict in favor of defendant in an
individual smoking and health case against another cigarette manufacturer.
Also in May 1999, a Tennessee jury returned a verdict in favor of
defendants, including PM Inc., in two of three individual smoking and
health cases consolidated for trial. In the third case (not involving PM
34
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Inc.), the jury found liability against defendants and apportioned fault
equally between the plaintiff and defendants. Under Tennessee's system of
modified comparative fault, because the jury found plaintiff's fault equal
to that of defendant's, recovery was not permitted.
In March 1999, an Oregon jury awarded the estate of a deceased smoker
$800,000 in actual damages, $21,500 in medical expenses and $79.5 million
in punitive damages against PM Inc. In February 1999, a California jury
awarded a former smoker $1.5 million in compensatory damages and $50
million in punitive damages against PM Inc. The punitive damages awards in
the Oregon and California actions have been reduced to $32 million and $25
million, respectively. PM Inc. is appealing the verdicts and the damages
awards in these cases.
In March 1999, a jury returned a verdict in favor of defendants, including PM
Inc., in a union health care cost recovery action brought on behalf of
approximately 114 employer-employee trust funds in Ohio.
In December 1999, a French court, in an action brought on behalf of a
deceased smoker, found that another cigarette manufacturer had a duty to
warn him about risks associated with smoking prior to 1976, when the
French government required warning labels on cigarette packs, and failed
to do so. The court did not determine causation or liability, which shall
be considered in future proceedings. Neither the Company nor its
affiliates are parties to this action.
Engle Trial
Verdicts have been returned and judgment has been entered against PM Inc. and
other defendants in the first two phases of this three-phase smoking and
health class action trial in Florida. The class consists of all Florida
residents and citizens, and their survivors, "who have suffered, presently
suffer or have died from diseases and medical conditions caused by their
addiction to cigarettes that contain nicotine."
In July 1999, the jury returned a verdict against defendants in phase one of
the trial concerning certain issues determined by the trial court to be
"common" to the causes of action of the plaintiff class. Among other
things, the jury found that smoking cigarettes causes 20 diseases or
medical conditions, that cigarettes are addictive or dependence-producing,
defective and unreasonably dangerous, that defendants made materially
false statements with the intention of misleading smokers, that defendants
concealed or omitted material information concerning the health effects
and/or the addictive nature of smoking cigarettes, and that defendants
were negligent and engaged in extreme and outrageous conduct or acted with
reckless disregard with the intent to inflict emotional distress.
During phase two of the trial, the claims of three of the named plaintiffs
were adjudicated in a consolidated trial before the same jury that
returned the verdict in phase one. In April 2000, the jury determined
liability against the defendants and awarded $12.7 million in compensatory
damages to the three named plaintiffs.
In July 2000, the same jury returned a verdict assessing punitive damages on
a lump sum basis for the entire class totaling approximately $145 billion
against the various defendants in the case, including approximately $74
billion severally against PM Inc. PM Inc. believes that the punitive
damages award was determined improperly and that it should ultimately be
set aside on any one of numerous grounds. Included among these grounds are
the following: under applicable law, (i) defendants are entitled to have
liability and damages for each plaintiff tried by the same jury, an
impossibility due to the jury's dismissal; (ii) punitive damages cannot be
assessed before the jury determines entitlement
35
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
to, and the amount of, compensatory damages for all class members; (iii)
punitive damages must bear a reasonable relationship to compensatory
damages, a determination that cannot be made before compensatory damages
are assessed for all class members; and (iv) punitive damages can "punish"
but cannot "destroy" the defendant. In March 2000, at the request of the
Florida legislature, the Attorney General of Florida issued an advisory
legal opinion stating that "Florida law is clear that compensatory damages
must be determined prior to an award of punitive damages" in cases such as
Engle. As noted above, compensatory damages for all but three members of
the class have not been determined.
Following the verdict in the second phase of the trial, the jury was
dismissed, notwithstanding that liability and compensatory damages for all
but three class members have not yet been determined. According to the
trial plan, phase three of the trial will address other class members'
claims, including issues of specific causation, reliance, affirmative
defenses and other individual-specific issues regarding entitlement to
damages, in individual trials before separate juries.
It is unclear how the trial plan will be further implemented. The trial plan
provides that the punitive damages award should be standard as to each
class member and acknowledges that the actual size of the class will not
be known until the last class member's case has withstood appeal, i.e.,
the punitive damages amount would be divided equally among those
plaintiffs who, in addition to the successful phase two plaintiffs, are
ultimately successful in phase three of the trial and in any appeal.
Following the jury's punitive damages verdict in July, the Engle trial judge
scheduled a hearing on numerous pending phase one and phase two motions,
including defendants' challenges of various rulings made by the judge and
the jury's verdicts on compensatory and punitive damages. Prior to the
commencement of the hearing, defendants removed the case to federal
district court following the intervention application of a union health
fund that raised federal issues in the case. In November 2000, the federal
district court remanded the case to state court on the grounds that the
removal was premature. An appeal of the district court's order is pending
in the federal appellate court.
The trial judge in the state court, without a hearing, then immediately
denied the defendants' post trial motions and entered judgment on the
compensatory and punitive damages awarded by the jury. PM Inc. and the
Company believe that the entry of judgment by the trial court is
unconstitutional and violates Florida law. PM Inc. has filed an appeal
with respect to the entry of judgment, class certification and numerous
other reversible errors that have occurred during the trial. PM Inc. has
also posted a $100 million bond to stay execution of the judgment with
respect to the $74 billion in punitive damages that has been awarded
against it. The bond was posted pursuant to legislation that was enacted
in Florida in May 2000 that limits the size of the bond that must be
posted in order to stay execution of a judgment for punitive damages in a
certified class action to no more than $100 million, regardless of the
amount of punitive damages ("bond cap legislation"). Plaintiffs have
indicated that they believe the bond cap legislation is unconstitutional
and may seek to challenge the $100 million bond. If the bond were found to
be invalid, it would be commercially impossible for PM Inc. to post a bond
in the full amount of the judgment and, absent appellate relief, PM Inc.
would not be able to stay any attempted execution of the judgment in
Florida. PM Inc. and the Company will take all appropriate steps to seek
to prevent this worst-case scenario from occurring and believe these
efforts should be successful.
In other developments, in August 1999, the trial judge denied a motion filed
by PM Inc. and other defendants to disqualify the judge. The motion
asserted, among other things, that the trial judge was required to
disqualify himself because he is a former smoker who has a serious medical
condition of a type that the plaintiffs claim, and the jury has found, is
caused by smoking, making him financially
36
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
interested in the result of the case and, under plaintiffs' theory of the
case, a member of the plaintiff class. The Third District Court of Appeals
denied defendants' petition to disqualify the trial judge. In January
2000, defendants filed a petition for a writ of certiorari to the United
States Supreme Court requesting that it review the issue of the trial
judge's disqualification, and in May 2000 the writ of certiorari was
denied.
PM Inc. and the Company remain of the view that the Engle case should not
have been certified as a class action. The certification is inconsistent
with the overwhelming majority of federal and state court decisions that
have held that mass smoking and health claims are inappropriate for class
treatment. As indicated above, PM Inc. has filed an appeal challenging the
class certification and the compensatory and punitive damage awards, as
well as numerous other reversible errors that it believes occurred during
the trial to date.
Pending and Upcoming Trials
In January 2001, the court granted defendants' motion for a mistrial in a
smoking and health class action in West Virginia in which PM Inc. is a
defendant, and in which plaintiffs seek creation of a trust fund to pay
the costs of monitoring the medical conditions of members of the purported
class to detect possible smoking-related illnesses; retrial of the case is
expected to begin in the first quarter of 2001. Additional cases against
PM Inc. and, in some instances, the Company, are scheduled for trial
through the end of 2001, including three health care cost recovery
actions; one asbestos contribution case; two purported smoking and health
class actions and a purported Lights/Ultra Lights class action (discussed
below); and an estimated 20 other individual smoking and health cases,
including a consolidated trial of individual smoking and health cases
scheduled to begin in June 2001 in West Virginia. In addition,
approximately 40 cases involving flight attendants' claims for damages
from ETS are currently scheduled for trial during 2001. Cases against
other tobacco companies are also scheduled for trial through the end of
2001. Trial dates, however, are subject to change.
Litigation Settlements
In November 1998, PM Inc. and certain other United States tobacco product
manufacturers entered into the Master Settlement Agreement (the "MSA")
with 46 states, the District of Columbia, the Commonwealth of Puerto Rico,
Guam, the United States Virgin Islands, American Samoa and the Northern
Marianas to settle asserted and unasserted health care cost recovery and
other claims. PM Inc. and certain other United States tobacco product
manufacturers had previously settled similar claims brought by
Mississippi, Florida, Texas and Minnesota (together with the MSA, the
"State Settlement Agreements") and an ETS smoking and health class action
brought on behalf of airline flight attendants. The State Settlement
Agreements and certain ancillary agreements are filed as exhibits to
various of the Company's reports filed with the Securities and Exchange
Commission, and such agreements and the ETS settlement are discussed in
detail therein. To date, the MSA has received final judicial approval in
51 of the 52 settling jurisdictions.
The State Settlement Agreements require that the domestic tobacco industry
make substantial annual payments in the following amounts (excluding
future annual payments contemplated by the agreement with tobacco growers
discussed below), subject to adjustment for several factors, including
inflation, market share and industry volume: 2000, $9.2 billion; 2001,
$9.9 billion; 2002, $11.3 billion; 2003, $10.9 billion; 2004 through 2007,
$8.4 billion each year; and, thereafter, $9.4 billion each year. In
addition, the domestic tobacco industry is required to pay settling
plaintiffs' attorneys' fees, subject to an annual cap of $500 million, as
well as additional amounts as follows: 2000, $416 million; and 2001
through 2003, $250 million each year. These payment obligations are
37
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
the several and not joint obligations of each settling defendant. PM
Inc.'s portion of ongoing adjusted payments and legal fees is based on its
share of domestic cigarette shipments in the year preceding that in which
the payment is due. Accordingly, PM Inc. records its portions of ongoing
settlement payments as part of cost of sales as product is shipped.
The State Settlement Agreements also include provisions relating to
advertising and marketing restrictions, public disclosure of certain
industry documents, limitations on challenges to certain tobacco control
and underage use laws, restrictions on lobbying activities and other
provisions.
As part of the MSA, the settling defendants committed to work cooperatively
with the tobacco-growing states to address concerns about the potential
adverse economic impact of the MSA on tobacco growers and quota-holders.
To that end, four of the major domestic tobacco product manufacturers,
including PM Inc., and the grower states, have established a trust fund to
provide aid to tobacco growers and quota-holders. The trust will be funded
by these four manufacturers over 12 years with payments, prior to
application of various adjustments, scheduled to total $5.15 billion.
Future industry payments (in 2000, $280 million; 2001, $400 million; 2002
through 2008, $500 million each year; 2009 and 2010, $295 million each
year) are subject to adjustment for several factors, including inflation,
United States cigarette volume and certain other contingent events, and,
in general, are to be allocated based on each manufacturer's relative
market share. PM Inc. records its portion of these payments as part of
cost of sales as product is shipped.
The State Settlement Agreements have materially adversely affected the
volumes of PM Inc. and the Company; the Company believes that they may
materially adversely affect the business, volumes, results of operations,
cash flows or financial position of PM Inc. and the Company in future
periods. The degree of the adverse impact will depend, among other things,
on the rates of decline in United States cigarette sales in the premium
and discount segments, PM Inc.'s share of the domestic premium and
discount cigarette segments, and the effect of any resulting cost
advantage of manufacturers not subject to the MSA and the other State
Settlement Agreements. Manufacturers representing almost all domestic
shipments in 1998 have agreed to become subject to the terms of the MSA.
Certain litigation has arisen, challenging the validity of the MSA and
alleging violations of the antitrust laws.
In April 1999, a putative class action was filed in federal district court on
behalf of all firms that directly buy cigarettes in the United States from
defendant tobacco manufacturers. The complaint alleges violation of
antitrust law, based in part on the MSA. Plaintiffs seek treble damages
computed as three times the difference between current prices and the
price plaintiffs would have paid for cigarettes in the absence of an
alleged conspiracy to restrain and monopolize trade in the domestic
cigarette market, together with attorneys' fees. Plaintiffs also seek
injunctive relief against certain aspects of the MSA. In March 2000, the
court granted defendants' motion to dismiss the complaint and plaintiffs
have appealed. Plaintiffs' appeal of the dismissal is pending before the
federal appellate court.
Since June 1999, a putative class action brought on behalf of certain native
American tribes and other suits challenging the validity of the MSA have
been filed against PM Inc., and in certain instances, the Company.
Plaintiffs in these cases allege that by entering into the MSA, defendants
have violated plaintiffs' constitutional rights or antitrust laws. The
case brought on behalf of the native American tribes was dismissed by the
trial court, and the tribes have appealed.
38
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
A description of the smoking and health litigation, health care cost
recovery litigation and certain other proceedings pending against the
Company and/or its subsidiaries and affiliates follows.
Smoking and Health Litigation
Plaintiffs' allegations of liability in smoking and health cases are based on
various theories of recovery, including negligence, gross negligence,
strict liability, fraud, misrepresentation, design defect, failure to
warn, breach of express and implied warranties, breach of special duty,
conspiracy, concert of action, violations of deceptive trade practice laws
and consumer protection statutes, and claims under the federal and state
RICO statutes. In certain of these cases, plaintiffs claim that cigarette
smoking exacerbated the injuries caused by their exposure to asbestos.
Plaintiffs in the smoking and health actions seek various forms of relief,
including compensatory and punitive damages, treble/multiple damages and
other statutory damages and penalties, creation of medical monitoring and
smoking cessation funds, disgorgement of profits, and injunctive and
equitable relief. Defenses raised in these cases include lack of proximate
cause, assumption of the risk, comparative fault and/or contributory
negligence, statutes of limitations and preemption by the Federal
Cigarette Labeling and Advertising Act.
In May 1996, the United States Court of Appeals for the Fifth Circuit held in
the Castano case that a class consisting of all "addicted" smokers
nationwide did not meet the standards and requirements of the federal
rules governing class actions. Since this class decertification, lawyers
for plaintiffs have filed numerous putative smoking and health class
action suits in various state and federal courts. In general, these cases
purport to be brought on behalf of residents of a particular state or
states (although a few cases purport to be nationwide in scope) and raise
"addiction" claims similar to those raised in the Castano case and, in
many cases, claims of physical injury as well. As of December 31, 2000,
smoking and health putative class actions were pending in Alabama,
California, Florida, Hawaii, Illinois, Indiana, Iowa, Louisiana,
Massachusetts, Michigan, Missouri, Nevada, New Jersey, New Mexico, New
York, North Carolina, Pennsylvania, Tennessee, Texas, Utah and West
Virginia, as well as in Australia, Brazil, Canada and Israel. Class
certification has been denied or reversed by courts in 24 smoking and
health class actions involving PM Inc. in Arkansas, California (1), the
District of Columbia, Illinois, Kansas, Louisiana, Maryland, Michigan,
Minnesota, New Jersey (6), New York (2), Ohio, Oklahoma, Pennsylvania,
Puerto Rico, South Carolina, Texas, and Wisconsin, while classes remain
certified in the Engle case in Florida (discussed above), a medical
monitoring case in Louisiana, a medical monitoring case in West Virginia
(discussed above) and a case in California. Some of the decisions denying
the plaintiffs' motions for class certification are on appeal. In May
1999, the United States Supreme Court declined to review the decision of
the United States Court of Appeals for the Third Circuit affirming a lower
court's decertification of a class.
Health Care Cost Recovery Litigation
In certain of the pending proceedings, domestic and foreign governmental
entities and non-governmental plaintiffs, including union health and
welfare funds ("unions"), native American tribes, insurers and
self-insurers such as Blue Cross and Blue Shield Plans, hospitals,
taxpayers and others, are seeking reimbursement of health care cost
expenditures allegedly caused by tobacco products and, in some cases, of
future expenditures and damages as well. Certain of these cases purport to
be brought on behalf of a class of plaintiffs. Other relief sought by some
but not all plaintiffs includes punitive damages, multiple damages and
other statutory damages and penalties, injunctions prohibiting alleged
marketing and sales to minors, disclosure of research, disgorgement of
profits, funding of anti-smoking programs, disclosure of nicotine yields,
and payment of attorney and expert witness fees.
39
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
The claims asserted in these health care cost recovery actions include the
equitable claim that the tobacco industry was "unjustly enriched" by
plaintiffs' payment of health care costs allegedly attributable to
smoking, the equitable claim of indemnity, common law claims of
negligence, strict liability, breach of express and implied warranty,
violation of a voluntary undertaking or special duty, fraud, negligent
misrepresentation, conspiracy, public nuisance, claims under federal and
state statutes governing consumer fraud, antitrust, deceptive trade
practices and false advertising, and claims under federal and state RICO
statutes.
Defenses raised include lack of proximate cause, remoteness of injury,
failure to state a valid claim, lack of benefit, adequate remedy at law,
"unclean hands" (namely, that plaintiffs cannot obtain equitable relief
because they participated in, and benefited from, the sale of cigarettes),
lack of antitrust standing and injury, federal preemption, lack of
statutory authority to bring suit and statute of limitations. In addition,
defendants argue that they should be entitled to "set off" any alleged
damages to the extent the plaintiff benefits economically from the sale of
cigarettes through the receipt of excise taxes or otherwise. Defendants
also argue that these cases are improper because plaintiffs must proceed
under principles of subrogation and assignment. Under traditional theories
of recovery, a payer of medical costs (such as an insurer) can seek
recovery of health care costs from a third party solely by "standing in
the shoes" of the injured party. Defendants argue that plaintiffs should
be required to bring any actions as subrogees of individual health care
recipients and should be subject to all defenses available against the
injured party.
Excluding the cases covered by the MSA, as of December 31, 2000, there were
an estimated 52 health care cost recovery cases pending in the United
States against PM Inc. and, in some cases, the Company, of which
approximately 20 were filed by union trust funds. As discussed above under
"Federal Government's Lawsuit," in 1999, the U.S. government filed a
health care cost recovery action against various cigarette manufacturers
and others, including the Company and PM Inc., asserting claims under
three federal statutes. Health care cost recovery actions have also been
brought in Israel, the Marshall Islands, the Province of British Columbia,
Canada and France and, in the United States, by Bolivia, Ecuador,
Guatemala, Honduras, Kyrgyzstan, Nicaragua, the Province of Ontario,
Canada, Panama, the Russian Federation, Tajikistan, Thailand (voluntarily
dismissed), Ukraine, Venezuela and the Brazilian states of Espirito Santo,
Goias, Mato Grosso do Sul, Piaui, Rio de Janeiro, Sao Paulo and Tocantins.
The actions brought by Bolivia, Ecuador, Guatemala, Honduras, Nicaragua,
the Province of Ontario, Panama, the Russian Federation, Ukraine,
Venezuela and the Brazilian states of Espirito Santo, Goias, Mato Grosso
do Sul and Tocantins were consolidated for pre-trial purposes and
transferred to the United States District Court for the District of
Columbia. As described below, the court has dismissed the claims of
Guatemala, Nicaragua, the Province of Ontario and Ukraine. The court
remanded the Venezuela, Ecuador, Espirito Santo and Goias cases to state
court in Florida. Other entities have stated that they are considering
filing health care cost recovery actions.
Seven federal circuit courts of appeals, for the Second, Third, Fifth,
Seventh, Eighth, Ninth and Eleventh Circuits, relying primarily on grounds
that plaintiffs' claims were too remote, have affirmed dismissals of, or
reversed trial courts that had refused to dismiss, such actions. In
addition, in January 2000, the United States Supreme Court refused to
consider plaintiffs' appeals from the cases decided by the Courts of
Appeals for the Second, Third and Ninth Circuits.
Although there have been some decisions to the contrary, to date, most lower
courts that have decided motions in these cases have dismissed all or most
of the claims against the industry. In December 1999, in the first ruling
on a motion to dismiss a health care cost recovery case brought in the
United
40
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
States by a foreign governmental plaintiff, the district court for the
District of Columbia dismissed a lawsuit filed by Guatemala, ruling that
the claimed injuries were too remote. Subsequently, in March 2000, the
court also dismissed the claims of Nicaragua and Ukraine. Guatemala,
Nicaragua and Ukraine each have appealed these decisions to the United
States Courts of Appeals for the District of Columbia Circuit. In August
2000, the federal district court for the District of Columbia dismissed
the claims of the Province of Ontario, and the Province has appealed. In
March 1999, in the only union case to go to trial thus far, the jury
returned a verdict in favor of defendants on all counts. Plaintiffs'
motion for a new trial was denied. In December 1999, the federal district
court in the District of Columbia denied defendants' motion to dismiss a
suit filed by union and welfare funds seeking reimbursement of health care
expenditures allegedly caused by tobacco products. Defendants are
appealing this decision. In June 2000, the federal district court in Rhode
Island dismissed a suit filed by a union, finding that the plaintiffs'
claims were too remote to permit recovery.
Certain Other Tobacco-Related Litigation
Asbestos Contribution Cases: As of December 31, 2000, 14 suits had been filed
by former asbestos manufacturers, asbestos manufacturers' personal injury
settlement trusts and an insurance company against domestic tobacco
manufacturers, including PM Inc. and others. Ten of these cases are
pending. These cases seek, among other things, contribution or
reimbursement for amounts expended in connection with the defense and
payment of asbestos claims that were allegedly caused in whole or in part
by cigarette smoking. Plaintiffs in most of these cases also seek punitive
damages. The aggregate amounts claimed in these cases range into the
billions of dollars. In January 2001, a mistrial was declared in an
asbestos contribution case in New York. Trial in another of these cases is
currently scheduled to begin in New York during the second quarter of
2001.
Lights/Ultra Lights Cases: As of December 31, 2000, there were 11 putative
class actions pending against PM Inc. and the Company, in Arizona,
Florida, Illinois, Massachusetts, Missouri, New Jersey, New York, Ohio,
Pennsylvania and Tennessee, on behalf of individuals who purchased and
consumed various brands of cigarettes, including Marlboro Lights, Marlboro
Ultra Lights, Virginia Slims Lights and Superslims, Merit Lights and
Cambridge Lights. These cases allege, in connection with the use of the
term "Lights" and/or "Ultra Lights," among other things, deceptive and
unfair trade practices and unjust enrichment, and seek injunctive and
equitable relief, including restitution. Trial in one purported class
action is scheduled for November 2001.
Retail Leaders Case: Three domestic tobacco manufacturers have filed suit
against PM Inc. seeking to enjoin the PM Inc. "Retail Leaders" program
that became available to retailers in October 1998. The complaint alleges
that this retail-merchandising program is exclusionary, creates an
unreasonable restraint of trade and constitutes unlawful monopolization.
In addition to an injunction, plaintiffs seek unspecified treble damages,
attorneys' fees, costs and interest. In June 1999, the court issued a
preliminary injunction enjoining PM Inc. from prohibiting retail outlets
that participate in the program at one of the levels from installing
competitive permanent signage in any section of the "industry fixture"
that displays or holds packages of cigarettes manufactured by a firm other
than PM Inc., or requiring those outlets to allocate a percentage of
cigarette-related permanent signage to PM Inc. greater than PM Inc.'s
market share. The court also enjoined PM Inc. from prohibiting retail
outlets participating in the program from advertising or conducting
promotional programs of cigarette manufacturers other than PM Inc. The
preliminary injunction does not affect any other aspect of the Retail
Leaders program.
41
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Vending Machine Case: Plaintiffs, who began their case as a purported
nationwide class of cigarette vending machine operators, allege that PM
Inc. has violated the Robinson-Patman Act in connection with its
promotional and merchandising programs available to retail stores and not
available to cigarette vending machine operators. Plaintiffs request
actual damages, treble damages, injunctive relief, attorneys' fees and
costs, and other unspecified relief. In June 1999, the court denied
plaintiffs' motion for a preliminary injunction. Plaintiffs have withdrawn
their request for class action status. Trial on the claims of ten
plaintiffs, which was set for trial in November 2000, has been continued
without a new trial date being set, and the court heard PM Inc.'s motion
for summary judgment on those claims in November 2000. The claims of
remaining plaintiffs have been stayed pending disposition of the ten
claims previously scheduled for trial.
Cases Under the California Business and Professions Code: In July 1998, two
suits were filed in California courts alleging that domestic cigarette
manufacturers, including PM Inc. and others, have violated a California
statute known as "Proposition 65" by not informing the public of the
alleged risks of ETS to non-smokers. Plaintiffs also alleged violations of
California's Business and Professions Code regarding unfair and fraudulent
business practices. Plaintiffs sought statutory penalties, injunctions
barring the sale of cigarettes or requiring issuance of appropriate
warnings, restitution, disgorgement of profits and other relief.
Defendants' motion for summary judgment was granted in part, and
plaintiffs' "Proposition 65" claims were dismissed. In August 2000, the
parties to one of the cases entered into a settlement agreement, which was
expressly conditioned upon a finding by the California Attorney General
that the settlement was in the public interest. The Attorney General made
that finding in October 2000. The parties to the remaining action entered
into a separate settlement agreement in October 2000. The two settlement
agreements, which together require PM Inc. to pay approximately $245,000
to the plaintiffs as costs, collectively resolve all claims that were, or
could have been, brought in these two actions. In November 2000, the court
granted defendants' motion seeking approval of both settlements and entry
of a final judgment in both cases.
Tobacco Price Cases: As of December 31, 2000, there were 40 putative class
actions pending against PM Inc. and other domestic tobacco manufacturers
as well as, in certain instances, the Company and PM International
alleging that the defendants conspired to fix cigarette prices in
violation of antitrust laws. Seven of the putative class actions were
filed in various federal district courts by direct purchasers of tobacco
products and the remaining 33 were filed in 15 states and the District of
Columbia by retail purchasers of tobacco products. The eight federal class
actions have been consolidated before a single federal district court; in
November 2000, the court hearing the consolidated cases granted in part
and denied in part defendants' motion to dismiss and to strike portions of
the consolidated complaint.
Tobacco Growers' Case: In February 2000, a lawsuit was filed on behalf of a
purported class of tobacco growers and quota-holders. An amended complaint
was filed in May 2000, and a second amended complaint was filed in August
2000. The second amended complaint alleges that cigarette manufacturers,
including PM Inc., violated antitrust laws by bid-rigging and allocating
purchases at tobacco auctions and by conspiring to undermine the tobacco
quota and price support system administered by the federal government. In
October 2000, defendants filed motions to dismiss the second amended
complaint and to transfer the case, and plaintiffs filed a motion for
class certification. In November 2000, the court granted defendants'
motion to transfer the case to the United States District Court for the
Middle District of North Carolina. In December 2000, plaintiffs filed a
third amended complaint that purports to add tobacco leaf buyers as
defendants.
42
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Cigarette Importation Cases: As of December 31, 2000, Ecuador, the European
Community, and various Departments of Colombia have filed suits in the
United States against the Company and certain of its subsidiaries,
including PM Inc. and PM International, and other cigarette manufacturers
and their affiliates, alleging that defendants illegally imported
cigarettes into the plaintiff jurisdictions in an effort to evade taxes.
The claims asserted in these cases include negligence, negligent
misrepresentation, unjust enrichment, violations of RICO and its state-law
equivalents and conspiracy. Plaintiffs in these cases seek actual damages,
treble damages and undisclosed injunctive relief. Ecuador's lawsuit has
not been served.
Consolidated Putative Punitive Damages Cases: In September 2000, a putative
class action was filed in the federal district court in the Eastern
District of New York that purports to consolidate punitive damages claims
in ten tobacco-related actions currently pending in the federal district
court in the Eastern Districts of New York and Pennsylvania. In November
2000, the court hearing this case indicated that, in its view, it appears
likely that plaintiffs will be able to demonstrate a basis for
certification of an opt-out compensatory damages class and a non-opt-out
punitive damages class. In December 2000, plaintiffs filed an amended
complaint and a motion for class certification. A hearing on plaintiffs'
motion for class certification is scheduled for March 2001.
Certain Other Actions
National Cheese Exchange Cases: Since 1996, seven putative class actions have
been filed alleging that Kraft and others engaged in a conspiracy to fix
and depress the prices of bulk cheese and milk through their trading
activity on the National Cheese Exchange. Plaintiffs seek injunctive and
equitable relief and treble damages. Two of the actions were voluntarily
dismissed by plaintiffs after class certification was denied. Two other
actions were dismissed in 1998 after Kraft's motions to dismiss were
granted, and plaintiffs appealed those dismissals. In one of those cases,
in February 2000, the appellate court reversed the trial court's decision
to dismiss the case, and the case is currently pending in the trial court.
In the other of those cases, in December 2000, the court reversed the
trial court's decision to dismiss the case, and defendants have sought a
rehearing in the court of appeals. The remaining three cases were
consolidated in state court in Wisconsin, and in November 1999, the court
granted Kraft's motion for summary judgment. Plaintiffs have appealed.
Italian Tax Matters: One hundred eighty-eight tax assessments alleging the
nonpayment of taxes in Italy (value-added taxes for the years 1988 to 1995
and income taxes for the years 1987 to 1995) have been served upon certain
affiliates of the Company. The aggregate amount of alleged unpaid taxes
assessed to date is the Italian lira equivalent of $2.2 billion. In
addition, the Italian lira equivalent of $3.2 billion in interest and
penalties has been assessed. The Company anticipates that value-added and
income tax assessments may also be received with respect to subsequent
years. All of the assessments are being vigorously contested. To date, the
Italian administrative tax court in Milan has overturned 184 of the
assessments. The decisions to overturn 154 assessments have been appealed
by the tax authorities to the regional appellate court in Milan. To date,
the regional appellate court has rejected 51 of the appeals filed by the
tax authorities. The tax authorities have appealed 31 of the 51 decisions
of the regional appellate court to the Italian Supreme Court. The
remaining 20 decisions are expected to be appealed as well. In a separate
proceeding in Naples, in October 1997, a court dismissed charges of
criminal association against certain present and former officers and
directors of affiliates of the Company, but permitted tax evasion and
related charges to remain pending. In February 1998, the criminal court in
Naples determined that jurisdiction was not proper, and the case file was
transmitted to the public prosecutor in Milan. In December 2000, the
43
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Milan prosecutor took certain procedural steps that may indicate his
intention to recommend that charges be pursued against certain of these
present and former officers and directors. The Company, its affiliates and
the officers and directors who are subject to the proceedings believe they
have complied with applicable Italian tax laws and are vigorously
contesting the pending assessments and proceedings.
----------------------
It is not possible to predict the outcome of the litigation pending against
the Company and its subsidiaries. Litigation is subject to many
uncertainties. Unfavorable verdicts awarding compensatory and punitive
damages have been returned in the Engle smoking and health class action
trial, and judgment has been entered against PM Inc. It is possible that
additional cases could be decided unfavorably and that there could be
further adverse developments in the Engle case. Three individual smoking
and health cases in which PM Inc. is a defendant have been decided
unfavorably at the trial court level and are in the process of being
appealed. An unfavorable outcome or settlement of a pending smoking and
health or health care cost recovery case could encourage the commencement
of additional similar litigation. There have also been a number of adverse
legislative, regulatory, political and other developments concerning
cigarette smoking and the tobacco industry that have received widespread
media attention. These developments may negatively affect the perception
of potential triers of fact with respect to the tobacco industry, possibly
to the detriment of certain pending litigation, and may prompt the
commencement of additional similar litigation.
Management is unable to make a meaningful estimate of the amount or range of
loss that could result from an unfavorable outcome of pending litigation.
The present legislative and litigation environment is substantially
uncertain, and it is possible that the Company's business, volume, results
of operations, cash flows or financial position could be materially
affected by an unfavorable outcome or settlement of certain pending
litigation or by the enactment of federal or state tobacco legislation.
The Company and each of its subsidiaries named as a defendant believe, and
each has been so advised by counsel handling the respective cases, that it
has a number of valid defenses to all litigation pending against it, as
well as valid bases for appeal of adverse verdicts against it. All such
cases are, and will continue to be, vigorously defended. However, the
Company and its subsidiaries may enter into discussions in an attempt to
settle particular cases if they believe it is in the best interests of the
Company's stockholders to do so.
44
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
Note 16. Quarterly Financial Data (Unaudited):
2000 Quarters
-------------------------------------------------
1st 2nd 3rd 4th
---------- ---------- ---------- ----------
(in millions, except per share data)
Operating revenues $ 20,040 $ 20,844 $ 20,058 $ 19,414
========== ========== ========== ==========
Gross profit $ 8,287 $ 8,906 $ 8,486 $ 8,449
========== ========== ========== ==========
Net earnings $ 2,009 $ 2,171 $ 2,319 $ 2,011
========== ========== ========== ==========
Per share data:
Basic EPS $ 0.87 $ 0.96 $ 1.04 $ 0.91
========== ========== ========== ==========
Diluted EPS $ 0.87 $ 0.95 $ 1.03 $ 0.90
========== ========== ========== ==========
Dividends declared $ 0.48 $ 0.48 $ 0.53 $ 0.53
========== ========== ========== ==========
Market price - high $ 24.63 $ 28.75 $ 34.00 $ 45.94
- low $ 18.69 $ 20.38 $ 23.00 $ 29.56
1999 Quarters
-------------------------------------------------
1st 2nd 3rd 4th
---------- ---------- ---------- ----------
(in millions, except per share data)
Operating revenues $ 19,497 $ 19,810 $ 19,878 $ 19,411
========== ========== ========== ==========
Gross profit $ 7,874 $ 8,080 $ 8,041 $ 8,195
========== ========== ========== ==========
Net earnings $ 1,787 $ 2,030 $ 2,001 $ 1,857
========== ========== ========== ==========
Per share data:
Basic EPS $ 0.74 $ 0.84 $ 0.84 $ 0.79
========== ========== ========== ==========
Diluted EPS $ 0.73 $ 0.84 $ 0.84 $ 0.79
========== ========== ========== ==========
Dividends declared $ 0.44 $ 0.44 $ 0.48 $ 0.48
========== ========== ========== ==========
Market price - high $ 55.56 $ 43.00 $ 41.19 $ 35.50
- low $ 34.00 $ 33.13 $ 33.81 $ 21.25
Basic and diluted EPS are computed independently for each of the periods
presented. Accordingly, the sum of the quarterly earnings per share amounts
may not agree to the total for the year.
During 2000, the Company recorded a $139 million pre-tax gain related to
the sale of a French confectionery business in the third quarter and a
$100 million pre-tax gain related to the sale of beer rights in the
fourth quarter.
45
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
During 1999, the Company recorded pre-tax charges primarily for voluntary
early retirement and separation programs ("VERS"), a factory closure
and related capacity reduction in Brazil and asset impairments in the
beer segment as follows:
1999 Quarters
----------------------------------
1st 2nd 3rd 4th
---- ---- ---- ----
(in millions)
VERS $287 $ 45 $ 8
Brazil factory closure 136
Beer asset impairments $ 29
---- ---- ---- ----
$287 $ 45 $144 $ 29
==== ==== ==== ====
46